Can your bank account keep up with inflation?

Posted Oct 29th 2008 12:25PM by Peter Cohan
Filed under: Consumer Experience, Financial Crisis

In case you had not noticed, the brokerage industry, whose survival depends on keeping you in stocks and mutual funds, has a well-rehearsed series of talking points designed to keep them in business by siphoning fees and commissions from you.

Now that stocks have lost 40% of their value in the last year, they are trying to convince you not to panic. That translates into 'don't sell' -- and 'stocks are a bargain now so buy, buy, buy'. I've suggested that people who need their money in the next six years should use yesterday's 11% rise to cut their losses in stocks and put their money somewhere safer like an FDIC insured bank account or a money market fund.

But the financial services industry doesn't want you to do that since the profits from such a move would be small. So they will try to convince you that putting money into a bank account puts you at an enormous risk of falling behind inflation. But let's take a look at reality. Earlier this year, I was paying $4.20 a gallon for gasoline and today I can pay $2.63 -- that's not inflation, it's deflation.

And declining gasoline prices are not likely to be the only sources of deflation as the economy contracts. Housing prices are down almost 17% and most other products and services will remain stuck in inventory unless their vendors cut their prices to accommodate the reality that most people can't get the credit they need to afford those products and services.

With incomes down since 2000 and a daily diet of thousands of layoffs, more and more people will be taking a hard look at how much money they have and can expect to get and compare that to the checks they must write every month. Companies will need to cut prices drastically just to clear their inventory.

And that deflation means that if you can just keep from losing any more money, the risk that your safe funds will fall behind inflation is nil for the foreseeable future. I'm not saying the inflation will not return, I'm just suggesting that for the time being it is better to stop the bleeding and keep your powder dry for the day when a resumption of corporate earnings growth makes stocks a good buy.

Peter Cohan is President of Peter S. Cohan & Associates. He also teaches management at Babson College and edits The Cohan Letter.

Tags: banks, featured, inflation, savings

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Reader Comments (Page 1 of 1)

10-29-2008 @ 5:00PM

Iridium said...

Nice little writeup Peter but you miss the overall perspective. The massive runup in prices caused such a huge spike in inflation over such a short period that you can't take the past 1-2 years and use it as a base measure. Although we have deflation compared to a few months ago we have massive inflation compared to a couple years ago.

In reality even with losing 40% net worth in the stock makret and record home declines we are paying a whole lot more than before. You have to look at the big picture over the past 10 years:

Gallon of gas 1999 $0.78 now $2.50
Even using the average over the past 20 years you get around $1.25 a gallon. As of right now you have a 100% price inflaction in gasoline that looks to be permanent. No matter which way you look at it we are paying twice what we were before.

2000 sq ft 4 bedroom house in my area in 1998 was $175k. Last year that same house was $325k and on the market for $250k right now. $75k in inflation even after a major housing drop. That essentially means an extra $320 a month for a 30yr mortage.

Property taxes are on average 30-50% higher than 10 years ago.

A Big Mac meal at McDonalds was $3.80 two years ago. Now it is $4.99.

All of these prices went up when real income went down even before inflation is figured in. When you figure in inflation the average person just isn't making any money. With the corporate climate right now the hope to make more money seems lost.