What is Inflation?
Inflation is the gradual increase in prices over time, which means your money buys less than it used to. That $100 in your pocket today won't buy as much in 10 years—this is the erosion of purchasing power.
Think about it this way: if your grandparents talk about buying a house for $20,000 or filling up a car for a few dollars, that's inflation in action. The average US inflation rate has been around 3% per year historically, though it varies significantly year to year.
Prices Rise Over Time
At 3% inflation, prices roughly double every 24 years
Purchasing Power Falls
Same money buys fewer goods and services over time
Savings Lose Value
Cash in a bank account loses real value if interest < inflation
Historical Context
Compare what money was worth in different eras
Why understanding inflation matters:
- Retirement planning — You'll need more than you think to maintain your lifestyle
- Salary negotiations — A 2% raise during 4% inflation is actually a pay cut
- Investment returns — "Real returns" matter more than nominal returns
- Long-term contracts — Fixed payments become cheaper to make over time
- Price comparisons — Compare historical costs to today's dollars fairly
Real-World Inflation Examples
Here's how inflation has affected everyday prices over the years. These examples show why planning for inflation is essential.
The Coffee Example
A cup of coffee that cost $0.25 in 1970 would cost about $2.00 today (adjusting for inflation). That's an 8x increase over 50+ years at roughly 3.5% average annual inflation.
Movie Tickets
In 1980, average movie ticket: $2.69. In 2024: about $11.75. That's 4.4x—actually slightly above general inflation, as entertainment costs have risen faster than average.
Minimum Wage Purchasing Power
In 1968, minimum wage was $1.60/hour. Adjusted for inflation, that's about $14.00 in today's dollars—higher than the current federal minimum wage of $7.25.
College Tuition
Average public university tuition in 1980: $2,100/year. Today: about $10,500. That's 5x—well above inflation, making college relatively more expensive than it was.
The Rule of 72 for Inflation
Divide 72 by the inflation rate to find how many years until prices double. At 3% inflation: 72 ÷ 3 = 24 years. At 6% inflation: 72 ÷ 6 = 12 years. This helps you visualize how quickly purchasing power erodes.
Protecting Against Inflation
To maintain purchasing power, your investments need to earn at least the inflation rate. A savings account paying 1% when inflation is 4% means you're losing 3% of your real purchasing power each year. This is why many people invest in stocks, real estate, or Treasury Inflation-Protected Securities (TIPS).