By Paul Hutchinson
Many of us intuitively think that our personal inflation rate is higher than the Stats SA calculated inflation rate. But is it?
A colleague of mine came across the following clipping from The Citizen newspaper of 1986, which allowed him to investigate price changes of this basket of household goods. While it obviously does not allow for a robust study of inflation (as is the case for the much-quoted Big Mac Index) and is not a representative basket of goods, it does provide some interesting insights and important financial planning lessons.
Figure 1: Product price list from 1986
Many of these items are Tiger Brands’ products, which have not really been value-engineered since then i.e., Crosse & Blackwell Mayonnaise still uses the same recipe, and it still comes in a glass bottle. This makes them good products to analyse over time.
To begin with, we charted South Africa’s official inflation rate, indexed to 100 in 1986 (be scared, very scared). The following chart shows just how insidious and corrosive inflation is over time. In short, if you were earning R10 000 a year in 1986, just to keep up with this official inflation rate, you would need to be earning R150 000 today!
Figure 2: South African inflation rate – 1986 to date
Inflation averaged approximately 7.5% per annum over this period. So how then does the change in the prices in the clipping above compare?
In the following table, we compared the respective product price from 1986 to the current price, and then calculated the annual compound change from 1986 to current:
Figure 3: Change in price of a selection of household products – 1986 to current
In short, the average annual increase of 9.1% of this household goods’ basket is above the official annual inflation rate of 7.5% over this period. So, our intuition that our personal inflation rate is higher than what the official Stats SA inflation rate would suggest does not appear to be so far off the mark.
Critically, this difference is material over the long term, as illustrated in the following chart. The chart shows that just to keep up with the increase in the household goods’ basket you need to now be earning around R260 000, not R150 000 as you might have initially thought (be more scared)!
Figure 4: South African inflation rate versus that of a basket of household goods – 1986 to date
However, whether your personal inflation rate is lower than, similar to or above the official rate is not as material as investing for growth.
What then does this mean for investors?
The above analysis reinforces the key insight that hiding in cash or cash plus / enhanced cash / income-yielding investment solutions is not a sustainable long-term investment strategy (in fact, I have seen this referred to as ‘reckless conservatism’).
This is a critical observation, given that investors underestimate for how long they will be invested1. Simply, if you consider someone entering the workforce today, it is reasonable to assume that they have a 70- to 75-year investment time horizon (40+ years’ investing for retirement and then 30 years’ living off their accumulated investments in retirement). While this is an extreme example, even someone mid-way through their working career realistically has a 40- to 50-year remaining investment time horizon. And unfortunately, underestimating your investment time horizon often results in investors being too risk averse with what should be viewed as long-term investments.
At the same time, investors need to target material outperformance of inflation, noting that all CPI+ benchmarked funds are benchmarked to the Stats SA-calculated inflation rate, not our intuitive inflation rate. Therefore, a growth-oriented investment solution, is best suited for investors looking to ensure a comfortable and sustainable retirement. This is because it is through investing in growth assets that you can confidently generate attractive real returns over the long term after tax and inflation.
At the same time, investors need to target material outperformance of inflation, noting that all CPI+ benchmarked funds are benchmarked to the Stats SA-calculated inflation rate, not our intuitive inflation rate. Therefore, a growth-oriented investment solution is best suited for investors looking to ensure a comfortable and sustainable retirement. This is because it is through investing in growth assets that you can confidently generate attractive real returns over the long term after tax and inflation.
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