How does Inflation affect my Retirement?

10bii icon
Note: You can use any financial calculator to do this problem, but if you want the BEST, you can get our 10bii Financial Calculator for iOS, Android, Mac, and Windows!

THE SCENARIO I recently got a letter from the company that manages the 401(k) accounts at the place I used to work. They said that if their projections are correct, then when I retire (in 23 years), my account should provide $48,000 per year in income (amounts have been changed to protect the innocent). Wow, $4,000 per month to live on! Sounds great! (Actually, it sounds a little thin to me if that's all the income I have, but we'll go with it for now.) However, I've heard of inflation, so what I want to know is 'How much buying power, in today's dollars, will that $4,000 per month have in 23 years?' To keep things simple, I'll use monthly compounding, and an inflation rate of 3.7%. (This is about what the average annual inflation rate has been in the United States for the past 40 years.) If you don't like my 3.7% number, feel free to use one you think better matches reality, or that better predicts the future. I got my figure here. Keep in mind that if you decide to use a different inflation figure, your answer will turn out different than mine.
THE SOLUTION First things first, make sure the calculator is using 12 Payments per Year. 23 years is 23 x 12 months, which is 276 months. N: 276 I/YR: 3.7 PV: (this is what I'm trying to find) PMT: 0 FV: 4000 When I plug in the numbers, I find that my monthly stipend beginning in 23 years has the same buying power as $1,710.19 today. If I was questioning my living comfort after retirement on $4,000 per month, I'm seriously questioning it at less than half of that figure. You may wonder 'why does the calculator return a negative number for PV?' (The calculator says that PV is -1,710.19.) The answer is that another way to consider this scenario is to ask yourself the question 'How much would I have to invest today at 3.7% to get me $4,000 in 23 years?' Since I'm going to get $4,000 in the future, I need to invest (i.e. pay out) some money today, so PV is represented as a negative number.