indicatorInvesting and Saving

Respecting inflation in your planning

By Mike Winsor, CFP® 5 May 2022 6 min read

Over the past year, inflation has become an increasingly popular topic of conversation. Between protectionist policies continuing to regain popularity in the US, the COVID-19 pandemic, and the Russian invasion of Ukraine, it is no surprise that inflation rates are on the rise. After averaging 3.2% in Alberta for 2021,1 headline inflation in Alberta was 6.5% in March, and even after removing food and energy, it was still 4.3%.2

For context, here are the annual inflation rates in Alberta for the past 20 years:

Source: Statistics Canada.

Inflation is a key consideration when it comes to planning for your long-term goals like retirement or a major purchase. To include inflation in this planning, it is important to begin with an understanding of what inflation is and why it can have such a big impact.

What is inflation?

Inflation can simply be defined as a general increase in prices and decrease in the purchasing power of money. Basically, it’s the idea that the same amount of money in your pocket buys less as time goes on. For example, think about your favourite food, car or subscription service and what it costs today versus what you first paid for it. 

When planning for future purchases and expenses, inflation often takes a backseat to other topics like planned savings, investment returns, fees and debt. There’s a reason why it doesn’t stand out. Inflation doesn’t show up on a bill or statement—it takes effort to identify it, like comparing your grocery bill against a similar one from last year.

If you plan to make a major purchase in 10 years and want to know how much you need to save for it, start by thinking about what it will cost in the future. That’s where inflation comes in. Underestimating and overestimating inflation each come with their own set of risks:

Underestimate inflation
(too low)
Overestimate inflation
(too high)
You could underestimate future expenses, resulting in a false sense of security, increased spending, reduced savings and/or reduced portfolio risk. You could overestimate future expenses, resulting in stress, unnecessary cost cutting and/or potentially taking on more portfolio risk than needed.
This may result in not having enough to meet your future needs. This may result in making unnecessary personal sacrifices.

If you prefer to visualize concepts, think of inflation like tire pressure. If your tire pressure is too high or too low, you risk damage to your tires, your vehicle, and possibly even yourself and your passengers.

Just like checking your tire pressure, you want to revisit any long-term projections (and the assumptions you make for them, like inflation) on a regular basis to ensure they remain appropriate. 

Does inflation really make a big difference?

Let’s look at an example. One of the most common mistakes made when planning for the future is using today’s cost as the amount for a future need. If you plan to make a $10,000 purchase 10 years from now, don’t expect it to still cost $10,000 at that time. 

For example, if we were to assume the cost of the purchase grows at two per cent over the next 10 years, it would look like this:

Original cost $10,000

End of year Original cost Inflated cost Increase from original cost
1 $10,000 $10,200 2.0%
2 $10,000 $10,404 4.0%
3 $10,000 $10,612 6.1%
4 $10,000 $10,824 8.2%
5 $10,000 $11,041 10.4%
6 $10,000 $11,262 12.6%
7 $10,000 $11,487 14.9%
8 $10,000 $11,717 17.2%
9 $10,000 $11,951 19.5%
10 $10,000 $12,190 21.9%

So if you’d saved $10,000 over 10 years you could be in for quite a surprise as you’d likely need an extra $2,000 to make your purchase. The question then becomes: would you rather come up with the additional $2,000 on the spot? Or save an extra 20 dollars each month over time? 

This difference between today’s cost and the future cost becomes larger when longer timeframes and/or higher inflation rates are involved. So, while a $10,000 purchase may not seem like the most impactful example, the same concept applies to significant life events, such as buying your first home, buying a vacation property, paying for college or university, etc. Also, it is worth noting that inflation is a broad measure — when planning around a specific expense, it’s worth doing research to determine an appropriate rate to use, as some costs rise more quickly than others.

This same situation applies to the cost of living in retirement. Suppose you plan to retire in one year and plan to live for 30 years on $80,000 per year. How much does that amount change with inflation of two per cent?

Original cost $80,000

Source: ATB Wealth

As shown above, when looking at long-term income needs, this can play a huge factor in assessing whether or not sufficient funds are available. Using a rate that is too low (or not using one at all) can result in significantly underestimating cash flow needs. Likewise, overestimating inflation can erode confidence unnecessarily.

The good news is that incomes also tend to rise with inflation, but that is not always the case.

How does inflation impact my retirement plans?

Throughout your career, your income is generally expected to grow at a pace equal to or greater than inflation. Because of this, the increase to your expenses from inflation can easily go unnoticed, due to the offsetting increases to income. 

This changes in retirement as your income switches to being generated by your savings, pensions and government benefits. Not only are your expenses still moving with inflation, but your pension income may be failing to keep pace. 

Pensions3 are designed to give you an income source that lasts until the end of your life. Most pensions have a feature that increases the amount you receive each year, based on changes in inflation. This is called “indexing to inflation” (sometimes referred to as COLA or “cost of living adjustment”). 

One issue with inflation indexing is that the measure used for inflation is less than perfect. Inflation in Canada is often measured based on the CPI (Consumer Price Index — more on that here) or its provincial equivalent. These are not always an accurate measure of the inflation you experience, since: 

  1. your budget may not reflect the average Canadian’s budget (or provincial equivalent), and/or;
  2. your local rate of inflation may not align with that of the country (or province).

Another issue is that indexed pensions rarely keep pace with inflation long term. It may surprise you that some pensions only index to 60 to 80 per cent of inflation. Over a span of 20 years or more, this can lead to a substantial reduction in purchasing power. 

Even more surprising is that some pensions do not increase with inflation at all. Be careful when asked to choose between different pension options, as some of the options may look better than others but not include indexing to inflation.

One notable case with regards to indexing is the Canada Pension Plan (CPP). CPP indexes to match CPI,4 which is an important consideration when looking at long-term retirement planning. Deferring CPP presents an excellent opportunity to increase your access to fully-indexed pension income in retirement.

There are many important factors to consider when determining when to take pensions and which options to select. A good best practice is to discuss any pension decisions with your financial advisor to evaluate the pros and cons of the various options available.

How can I manage my plans for inflation?

The best course of action is to work with a financial advisor to plan for major purchases, expenses, and life events (like retirement). They can help you to consider long-term inflation rates in your planning as well as advise on reasonable rates to use for investment returns and income projections. 

A financial advisor can also help you avoid common mistakes like using a general inflation rate for something like education expenses where costs can rise in excess of general inflation. Make sure to revisit your projections on a regular basis to ensure the numbers you are using continue to be reasonable as time goes on.

If you are not currently working with a financial professional, do some research to assess whether it would be appropriate to use a general rate or a more specific rate applicable for an expense when doing projections.


Planning for the future can be a challenging exercise —both in terms of finding the information you’re looking for and knowing what to look for in the first place. Working with a financial professional can help reduce the stress that comes with planning while helping you along the path towards achieving your goals.  

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