One of my clients brought by a ledger his mother kept from January through February 1956. His mom was trying to track where all their money was going because they had no idea why they didn’t have enough left at the end of every month. What’s fascinating to me about this ledger is the impact inflation has had over the last 57 years. Here are a few items from this 1956 ledger that caught my attention: rent $40 per month; car payment $44 per month; gas & electric $11 per month; groceries about $80 per month; black and white TV payment $13 per month and a swamp cooler payment of $6 per month. Their income was $77 per week; $309 per month; $3,706 per year.

When I plug some of these numbers into the Bureau of Labor statistics inflation calculator, I found that $40 for rent in 1956 would be $342 today. I can’t imagine a family could find a home to purchase or rent at $342 per month today. An annual income in 1956 of $3,706 is the equivalent income in 2013 of $31,712. Here are the other expenses in today’s dollars: car payment $376, gas & electric $90, groceries $685, black & white TV $111, swamp cooler $51.
Historically inflation has been directly related to the increase in the quantity of money.  When the Federal Reserve Bank slashes the federal funds rate and uses tools such as quantitative easing, the federal reserve is increasing the quantity of money to produce inflation. Milton Friedman, who won the Nobel prize in economics, once said, “There has never in history been an extremely rapid increase in the quantity ofmoney without an inflation.”    (5:06-5:20)

With the Federal Reserve slashing rates and buying assets, they have injected trillions into the system. In the USA where we are running a trillion dollar budget deficit and have racked up almost S17 trillion dollars of debt, most people would argue that the $2.5 trillion dollars the fed has injected into the system would meet the definition of a rapid increase in the quantity of money. However, when I spoke with Steve Cunningham who is the director of research for then American Institute for Economic Research he said, “Even though the federal reserve has been increasing the money supply, much of that money supply is sitting in banks reserves. And banks are currently holding fifteen times excess reserves. It is when banks begin to release the money back into the system that the money supply increases and the effects of inflation may begin to take hold.”

Milton Friedman taught (:33-:41) that historically a lag existed between the time the money supply increased and inflation took hold (12:08 – 12:16). With banks holding 15 times excess reserves, you have to wonder what impact it will have on prices when all of that money begins to flow into the economy. The fact that we have not yet experienced inflation due to the federal reserves quantitative easing may just be the lag Milton Friedman lectured on.

One of the challenges we have when working with trillions of dollars is that it’s hard for most of us to wrap our minds around just how much money that is. To give you some perspective, if you gave away one million dollars per day it would take you 2,738 years to give away one trillion dollars. Jesus walked the earth about 2,000 years ago. So you would have had to start giving away one million dollars per day 738 years before Jesus was born just to get to one trillion dollars.
A dollar in hand today will purchase more than a dollar will purchase in the future, and this is not by accident but by design. As you transition into retirement you need to realize having too much money safe secure and guaranteed may make you feel good in the short term, but sitting in a large cash position is likely a recipe for losing purchasing power over time. According to, a  five year CD (Certificate of Deposit) is currently paying 1.6%. So if inflation is currently running at 1.5%, and you have to pay ordinary income tax of 15% on the interest you earn in your CD at the end of every year, then you can see the 1% you earn in your CD is losing slowly losing purchasing power. One of my clients recently quipped that CD stands for certificate of disappointment because of the dismal rates. Most of the people I meet don’t like the idea of having to cut back on their lifestyle every year as they transition through retirement. This is why you need to keep your money working hard for you.
What steps should you take right now to position your money and protect your purchasing power if inflation is getting ready to hit? In a summary of a working paper by the Yale International Center for Finance titled, Facts and Fantasies About Commodity Futures, dated February 2005, the researchers point to commodities as one possible way to diversify your portfolios against inflation. The researchers wrote:

“Commodity futures returns have been especially effective in providing diversification of both stock and bond portfolios. The correlation with stocks and bonds is negative over most horizons, and the negative correlation is stronger over longer holding periods. We provide two explanations for the negative correlation of commodity futures with traditional asset classes. First, commodity futures perform better in periods of unexpected inflation, when stock and bond returns generally disappoint. Second, commodity futures diversify the cyclical variation in stock and bond returns.” 

If you’re not familiar with the term commodities think of items such as energy (oil & gas), grains (corn & wheat), precious metals (gold & silver), industrial metals (high grade copper), livestock (hogs & cattle), as well as “soft goods” such as cocoa, coffee, cotton and sugar. Commodity futures have a reputation for being risky, and you shouldn’t invest in anything unless you understand all of the risks. Today investors are looking to tools such as mutual funds, ETFs and annuities that invest in or are linked to commodities to give them some exposure to this riskier asset but further diversifying their portfolios. Ultimately if you are concerned about protecting your purchasing power, then you may want to consider diversifying your portfolio by owning real assets which have historically done well during inflationary times.

We are in a unique economic environment and past performance is no guarantee of future results. Commodities are just one way investors are looking to diversify their portfolio.  Many are also considering tools such as TIPS (Treasury Inflation Protected Securities), dividend paying stocks and inflation protected annuities.
Retirement is all about cash flow not your net worth. Your income and purchasing power is what will allow you have the lifestyle you have worked hard for. Your retirement plan should include strategies for trying to reduce the risk of stock market volatility, protect your purchasing power from the effects of inflation and generate a lifetime of inflation adjusted income as securely as possible.

Also featured in the June 2013 Kitsap Peninsula Business Journal