Inflation is probably the biggest financial news story of 2022 so far, not just here in France but across the EU and in the UK.
We do not need to read the headlines to know the cost of living is going up – we are only too aware when we receive our electricity bills, fill up our cars with petrol, and do our supermarket shop.
This follows 10 years of benign, easy-to-ignore inflation, but in fact we were not immune from it then. It is always there in the shadows, slowly eroding the spending power of the euros in our pockets.
We should be vigilant about how inflation impacts on our financial security through retirement.
It becomes a greater concern over time, and we are living longer.
The current inflation surge is expected to be temporary, but it will hopefully serve as a reminder to take this long-term threat more seriously.
We cannot predict what inflation will be in 10 or 20 years’ time, but we do know that even low levels can seriously reduce your spending power over time if your money does not grow at the same rate.
Inflation in France and Europe
Back in December 2020, there was no inflation in France.
The Harmonised Index of Consumer Prices (HICP) was 0%. It then climbed over 2021, reaching a 13-year high of 3.4% in December, easing slightly to 3.3% January – actually, the lowest in the Eurozone that month.
This is largely driven by petroleum products (24.3% in January) and energy costs (19.9%), followed by fresh food at 4%.
Insee (France’s national institute of statistics and economic studies) expects prices to continue climbing over the first half of the year.
In comparison, Germany suffered 5.7% inflation at the end of 2021, and Spain 6.6%.
Across the Eurozone as a whole, inflation hit 5% in December 2021, the highest level for the single currency. The following month it was 5.1%.
Eurozone inflation averaged 2.6% in 2021. It is now forecast to be 3.5% for 2022 (in February, the European Commission revised this forecast up from 2.2%), before declining to 1.7% in 2023.
In the UK, the Consumer Price Index hit 5.4% in December, then 5.5% in January. You have to go back 30 years, to March 1992, to find a higher rate (7.1%).
There are a couple of reasons for this current surge, most related to the pandemic and therefore expected to be temporary.
We are experiencing what statisticians call the ‘base effect’
Oil prices fell sharply in 2020 and lockdown measures led to a drop in consumption and prices.
Calculating the year-on-year change in prices compared to such low levels will arithmetically lead to a high rate today.
As economies opened unevenly after lockdowns, companies have struggled to keep up with rapidly rising demand and supply chains were hit by bottlenecks and logistical problems.
The resulting rise in industrial input and raw material prices has proved stronger and more persistent than anticipated, but once again this should only be temporary.
Additionally, higher energy prices all around the world are having a huge impact on inflation.
Some of this is again caused by temporary issues like weather. Europe is highly reliant on natural gas from Russia, some of which comes via pipelines in Ukraine.
Presuming this is resolved and the supply bottlenecks fade over the year, the European Commission expects inflation to remain high through the summer but then start to fall.
The Bank of England advises that inflation could rise to 7% in the spring, but then fall back during the rest of this year and next.
The Bank also took action by raising its base interest rate in December and February.
Inflation, your savings and retirement income
No one is immune from inflation. We all need to plan to protect our savings and future income from the rising cost of living.
It should be an integral part of financial planning for retirement – put simply, make sure your money lasts as long as you do.
France’s Institut national d’études démographiques (Ined) calculates that, on average, a male who is currently 65 years old will live another 19.2 years (to 84), and a female one year longer.
If you are retiring now at age 60, you need to plan for more than 30 years of retirement.
Unless your savings grow each year, even if you preserve the amount of units of currency you have, it will buy you considerably less as the years go by.
As a basic illustration, if you have €50,000 in a current account with no growth, and inflation is 3% every year, after 10 years its value will have fallen to around €37,000.
After 20 years it will be around €27,500 and after 30 just €20,555.
That is a 59% reduction in purchasing power – and, in my view, purchasing power is the only rational definition of money.
Investments must keep up with inflation
Looking at it from a different angle, and using the Bank of England’s inflation calculator, if your annual living costs in 2000 were £50,000, 20 years later the same goods and services cost you around £86,000 (average annual inflation was 2.8%).
Unless your money grew by the same amount, your standard of living could fall significantly.
You therefore need to invest in assets that can be expected to produce enough growth to at least keep up with inflation.
As we know from the last 10 years, bank interest rates cannot be expected to do this – in fact, many savers have been earning negative real rates of return.
While you may become more averse to investment risk as you get older, always remember that inflation is also a big risk to your savings.
You can reduce investment risk to comfortable levels by obtaining an objective calculation of your attitude to risk, then building a suitable, well-diversified portfolio around your risk tolerance, time horizon, circumstances and objectives.
Holding your investment portfolio within an arrangement that is tax-efficient in France, such as an assurance vie, helps protect your capital from unnecessary taxation as well as inflation.
Review your financial planning around once a year, then get back to enjoying your retirement years in France.
(Tax rates, scope and reliefs may change. Any statements concerning taxation are based upon our, Blevins Franks, understanding of current taxation laws and practices which are subject to change. Tax information has been summarised; an individual is advised to seek personalised advice.)