Official inflation rates of little use to retirees

January 21, 2007|By Humberto Cruz | Humberto Cruz,Tribune Media Services

Health insurance premiums for my wife, Georgina, and me went up almost 30 percent in 2006. For this year, they've already gone up 13 percent.

For our homeowner's insurance plus windstorm coverage, the rise in premiums was 9 percent in 2006. Auto insurance went up 14 percent. (All these increases are without ever making a claim.)

On more frequently recurring expenses, the tab is up, too. The monthly cable television bill, for example, is 13 percent higher for the same service. On a more modest scale, our average grocery bill was 4 percent higher in 2006 while we bought basically the same things.

And travel expenses - admittedly by design, this being an area we can more easily control - more than doubled last year. The main reason was that we traveled more, but the cost also went up.

All of which makes me wonder how much credence to place on reports that inflation is on the wane, up only about 2 percent year over year based on changes in the Consumer Price Index for all urban consumers (CPI-U), with prices holding steady or even declining in recent months.

My conclusion: Keeping tabs of inflation figures from the Bureau of Labor Statistics makes for an interesting intellectual exercise. It also can help Social Security beneficiaries anticipate annual cost-of-living adjustments, which are based on changes in a separate Consumer Price Index for urban wage earners and clerical workers, known as CPI-W (the adjustment for 2007 is 3.3 percent, based on changes in the index as of each September).

But for planning your finances, the official inflation figures are not all that helpful. For an accurate picture, you need to track what I call your "personal inflation" rate, based on the goods and services you consume.

Ultimately for each person the key question is, "How much more am I going to have to spend each year to maintain my standard of living?" said Alan Levenson, chief economist for T. Rowe Price, a Baltimore-based financial services and investment management firm. For the many people whose spending patterns differ markedly from the way the inflation index is constructed, "chances are they are going to have a different inflation experience," he said.

The CPI-U, the most widely quoted of the inflation indexes, measures the changing cost of a number of goods and services and weights them - that is, assigns them a relative value based on their share of overall consumer spending.

By far the largest weighting in the index goes to housing costs, which recently accounted for 42.4 percent of the CPI-U (of that, 32.3 percent is for shelter, which includes what we pay for mortgage or rent). Next were transportation costs at 17.4 percent, food and beverages at 15.1 percent, and medical care at 6.2 percent.

Therefore, if your housing costs are mostly fixed - for example, if you have a fixed-rate mortgage or you own your home free and clear - then any large change in the CPI-U that's caused mostly by changes in housing prices would not be reflected as much in your overall costs, Levenson said.

But if your medical expenditures consume much more than 6.2 percent of your budget, as they do for many older Americans, then a spike in the cost of health care will affect you much more than the official inflation numbers might suggest.

Your personal inflation rate also will depend on many other factors, including whether you have children and, if so, whether you send them to public or private school, where costs often rise faster than overall inflation. It will depend on whether you have your meals mostly at home or eat out frequently (the rate of inflation for meals eaten away from home is about twice that of meals at home).

My point: To gauge more accurately the impact that inflation will have on your budget, you need to keep track of how much you spend on at least the major categories. "At least know that," Levenson said.

Better yet - and I always recommend this at the start of every year - keep track of all the money you receive and spend, and what you spend it on. This is the most helpful financial habit I know.

Humberto Cruz writes for Tribune Media Services.

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