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Hi--

I've been wondering what other's personal inflation rates actually are, and any comments people might have regarding this topic.

Is it stable over long periods of time?
How does it compare to the CPI?
How do you calculate yours?
Does it seem determinable, or does it just bounce around too much?

For me, it's pretty hard to tell what mine would be long term. We've had significant change in our lives in the last five years, resulting in significant budget changes. I think we even spent a fair amount less in 2000 than in 1999, so I guess we had "deflation".

For calculating mine, I was going to throw out the following categories:

1. Income/wage taxes, including federal and state income tax, OASDI/Medicare. These are more a function of my income rather than my expenses, and there is less correlation between income and expenses every year.
2. Savings. These don't show up in my book as an expense anyway. I use Quicken and these things are reflected as a transfer of money from one account to another.
3. Education. This is tuition for my kids' schooling. It will rise faster than inflation and will take a major spike upward when they go to college, so I feel it should be treated differently.
4. Charitable contributions. Like taxes, this item is tied more closely to income than expenses. Most people would also view this as a highly discretionary expense.
5. Mortgage interest. This item goes down every month, so like Education it is an atypical expense.

Eliminating those five categories results in what I would consider my core spending. I would be curious to see what my core spending has done over the last few years. I think I have the data to make that calculation.

Thoughts?

--malakito.
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This is tuition for my kids' schooling. It will rise faster than inflation and will take a major spike upward when they go to college.

I created a separate fund for colllege. I put $50,000 aside when my son was born. Whatever that grows to in 18 years is what he has for college.

But college is not the only category with "spike" characteristics. For example, we will have a big expense for "New Automobile" when we replace the old one. We account for this in our normal budget, contributing the amount needed each month to have enough for a new car when it is time for one.

We examine this category each year to determine whether it should be increased or decreased. In doing this, I pay little attention to what the government says about inflation. Instead, I check the current price of the type of car I want to buy. If it has increased, I need to increase the monthly expense. If not, I don't. It doesn't matter too much if the cost of other models and makes has increased or not--just the one that I intend to buy.

I think we even spent a fair amount less in 2000 than in 1999, so I guess we had "deflation".

Joe Dominguez argued in Your Money or Your Life that it is possible to eliminate inflation as a factor by altering your spending habits. He is wrong about eliminating inflation, and I wish he hadn't said this. But he is right about the principle. You can diminish the effects of inflation by adjusting your spending in response to price changes.

If you go to 50 movies a year, and the price goes from $5 to $6, you've incurred a $50 inflation cost and need to increase your "Entertainment Category" by that amount. Your inflation rate for movies is 20 percent. However, if you respond to the price increase by opting to attend only 42 movies next year, and to spend the other eight Saturday nights playing board games at home, you have experienced no increase in entertainment expenses. Your inflation rate is zero.

The reason why I think Dominguez is wrong in his conclusion (that you can bring inflation to zero) while expressing an important principle (that inflation is under your personal control) is that opportunities for avoiding inflation diminish as you bring your spending down to rock bottom levels.

What if you cut movies down to three a year prior to leaving your job? It's a much more noticeable change to go from three movies a year to two movies a year than it is to go from 50 a year to 42 a year. So I believe that caution should be exercised in application of the personal inflation rate concept.

You can never bring inflation down to zero because there are some things you simply must buy. If you buy powdered milk for your children now, are you going to stop giving them milk altogether if the price of powdered milk goes up? If the electric company raises its rates, are you going to read by candlelight?

That said, it is possible to make adjustments in your spending so that you are always taking advantage of the best "deal" being offered in the marketplace. If the airlines get in a price war, make that the year that you take one of your rare air-travel vacations. If you notice fees being adde to the telephone bill, make a switch to using e-mail for communication with family members. If the type of yogurt you like becomes fashionable and the price goes up with demand, switch to a brand with less popular appeal.

Lots of adjustments of this type are possible. The key is to stay on top of price changes for the things you buy, and to stay on the look-out for alternatives to the things you buy. When a new chain of haircut places was trying to get started, they offered coupons for a $2 haircut in boxes of Cheerios. I bought six boxes, and spent $12 that year on haircuts. I enjoyed "deflation" for the year in that category.

Is it stable over long periods of time?

My spending outside of the health care area is fairly stable. We make small adjustments every year, but not anything big, and the increases tend to match the decreases.

Health care spending is not stable for me. That was true before I left the job, and has remained true since. Health spending is hard to plan for, and you need to build in lots of slack. Unless you figure out a better way of handling it than I have thus far.

How does it compare to the CPI?

Minus health care, my personal inflation rate is lower than the CPI. With health care factored in, it's been higher in recent years. That is, unless you believe that I'm getting more for my health care dollar than I was before. My belief is that I'm getting more in some areas, but that overall there's been a lot of inflation in this category.

Does it seem determinable, or does it just bounce around too much?

There is some bouncing, of course. Even knowing about the bounces teaches you something, though. The knowledge return on time invested in keeping personal inflation figures is high, in my experience.

Also, I have more confidence in these numbers because I know exactly where they came from. The government statisticians are probably doing the best they can. But any number that is intended to apply to hundreds of millions of people's circumstances just has to have a lot of generalization built into it. Staying on top of inflation is important enough to the success of my plan that I prefer a customized approach.
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Malakito raised a good issue and Hocus has excellent commentary.
Besides adjusting spending, another way to ameloriate inflation is to invest in good companies which may benefit from increased prices of goods and services that you buy. Last month I bought the energy stock OEI. That helped cushion the shock of this month's natural gas bill (3x that of the previous year's).
This won't work for everything however, I haven't figured out how to hedge property taxes.

Regards,
valuinvst
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valuinvst writes,

Malakito raised a good issue and Hocus has excellent commentary.
Besides adjusting spending, another way to ameloriate inflation is to invest in good companies which may benefit from increased prices of goods and services that you buy. Last month I bought the energy stock OEI. That helped cushion the shock of this month's natural gas bill (3x that of the previous year's).


Excellent advice! I try to hedge my future health care costs by keeping at least 15% of my portfolio in large cap pharmaceutical stocks. But as hocus often points out, not everyone has the stomach for the stock market. (Though trying to hedge against inflation with CDs and money market funds has risks of its own.)

This won't work for everything however, I haven't figured out how to hedge property taxes.

You can't do much about your Federal income taxes, but it's easy enough to adjust your state and local taxes by "voting with your feet". That's one reason I live in Texas rather than New York or California.

intercst

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hocus writes:

The reason why I think Dominguez is wrong in his conclusion (that you can bring inflation to zero) while expressing an important principle (that inflation is under your personal control) is that opportunities for avoiding inflation diminish as you bring your spending down to rock bottom levels.

Yup. Without going into specifics, attempting to reduce our spending level this year below last year's rate would require significant lifestyle changes. Our top ten budget categories accounted for about 85% of our total spending, and those categories are hard to reduce any further that we already have.

Your points about health care and new cars are well made and are in the "I haven't thought about them much because they're so far away" category for me. We have two cars that are very reliable brands and are new; we're not planning on buying a car for the next 10 years. Health care is part of the budget but my employer pays 80%; the big spike there will be when I'm on my own.

One way I hope to handle the increase in health care costs when I retire is that my tax obligation should drop dramatically because I spend far less than I earn. Just eyeballing it, my annual spending now is probably less than my itemized deductions, personal exemptions, and child credits, but for the time being I'm paying a ton of taxes on money that's just going into savings. So I'm hoping my tax reductions offset my health care increases; at least initially.

--malakito.
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