With some careful planning, you can mitigate the impact of inflation on your retirement savings.

As inflation rises, many preretirees are wondering how they can ensure that their retirement savings will cover their cost of living in the future. For investors who are planning for retirement, the good news is they still have time to make any necessary adjustments. They may even find the plan they have in place is already sufficient to mitigate the impact of inflation.

How inflation affects retirement savings
The Federal Reserve generally considers an inflation rate of 2% as acceptable to maintain a healthy economy. At this rate, a dollar you save today will be worth about 98 cents next year—and then less again the year after that. To overcome this effect, your retirement savings would need to grow at a 2% annual rate to maintain your spending power into the future, provided inflation remains at 2%.

When inflation is higher, as it has been recently, the buying power of your savings declines more rapidly. Given that it is impossible to know what inflation will be like in the future, it is important to build a margin of safety into your savings plan. This means carefully considering your investment allocation and your retirement timeline. Growth beyond inflation is necessary to ensure that you accumulate the savings you will need to support yourself in a retirement that could last several decades.

“T. Rowe Price generally assumes a 3% inflation rate when building financial plans for its clients, which some people considered high as recently as a year or two ago,” says Judith Ward, CFP®, a thought leadership director with T. Rowe Price. “Inflation puts more pressure on portfolio balances during retirement by decreasing their purchasing power. We believe the key is to take the long view and build your retirement savings to withstand inflationary environments.”

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