Inflation is when the things you buy get more expensive as time goes by. I’m sure you’ve noticed it.
Knowing about inflation is useful because it makes planning for your future easier.
This article will show you how you can work with inflation values to estimate how much things will cost in the future.
Let’s say you currently spend R2000 a month on food. If we assume that food inflation is 7%, and we expect it to remain at this level in the future, you can expect to spend 7% more on food this time next year. In other words, your food bill will increase by 7%.
2000 x 1.07 = R2140/month. (Check out the previous Wealthy Maths blog on VAT to see how we work with percentages.)
In two years’ time, you can expect your monthly food bill to be R2,000 plus 7%, plus another 7%. Remember, we are now looking two years ahead, so you need to increase the cost by 7% for each of the two years.
2000 x 1.07 x1.07 = R2290/month
You can extend this to any number of years – just keep multiplying by 1.07 for every year you move forward. In 5 years time, you can expect your food cost to be:
2000 x 1.07 x 1.07 x 1.07 x 1.07 x 1.07 = R2805/month
The mathematically correct way to write this is
2000 x (1 + 0.07)^5 (the 5 just means multiply by itself 5 times).
A quick and easy way of doing this is by bashing the “=” key on a calculator. Enter the present day value of the expense (in this case R2000), hit the multiply button, enter the inflation number (1.07 in this case) and push the “=” key for the number of years you want to project ahead.
So, to calculate the cost of food in 5 years’ time, enter the following on a calculator:
You should get R2805.10. Well done, your economics diploma is in the mail!
Okay, let’s look at another example (one that gives many parents sleepless nights) – university tuition fees.
Let’s assume the cost of three years’ university tuition is R100,000. A parent, and disciplined saver, managed to accumulate this amount over the years for their 14-year-old child who will be attending university in 4 years’ time.
Education inflation is, unfortunately, a lot higher than most other items. So let’s estimate that it will be 10% over the next four years.
100,000 x 1.10 x 1.10 x1.10 x 1.10 = R146,410.
As you can see, the R100,000 worth of savings will no longer be enough to cover the tuition fees. This is why it’s important to put your money where it can keep up with inflation, instead of just keeping it under your mattress or in a low-interest bank account.
Inflation is the enemy of your savings goals. To combat it, you need to be smart about where you put your money.
Our friend Stealthy Wealth knows his way around maths. Luckily for us he also speaks human, which is why we asked him to explain the most important maths we need to know to be good at money. This is not your average maths class. Tune in once a month and turn into a money mathemagician.