You may have heard the word ‘inflation’ before, but do you know what it means and how it affects you? By Schalk Malan

If your answer was ‘no’, it seems you’re not alone. A recent Financial Services Board (FSB) report about financial literacy showed that, despite the fact that we’re all feeling its effects, a quarter of South African consumers are not able to respond to questions on inflation.

Not understanding inflation makes it hard to see the value of every rand you earn and how to beat the effects of rising inflation.

So what exactly is inflation? It’s the increase in the cost of goods and services over time, measured annually. When inflation rises, the money you have effectively buys you less of a product or service.

Measuring stick

The Consumer Price Index – or CPI – is published quarterly by Stats SA, and is a way to measure inflation. One of the ways in which it’s done is through making use of a ‘market basket’. This is when analysts select a number of products such as food, clothing and other daily expenses, and then compare the cost of the goods in the basket over time. The extent to which the prices change over time result in a ‘price index’. So the CPI is the cost of the basket today as a percentage of the cost of a basket of the identical goods in the next year.

Less for more?

When inflation increases, money’s purchasing power decreases. For example, if the inflation rate is 3%, a litre of milk that’s priced at R12 today will cost you R12.36 in one year’s time. People often complain about prices going up, but ideally, salaries should be increasing with inflation. So while your rands buy less, you should be earning more rands – on balance leaving you in roughly the same position from year to year. If salary inflation is lagging a little behind consumer inflation, then consumers need to look to salary inflation rather than the cost of goods as the driver of the gap between their earnings and the cost of living.

Work it

This issue is very significant considering current events in SA concerning wage disputes and labour unrest. It all stems from the feeling that earnings aren’t keeping up with inflation. What we’re seeing is that wage increases are much higher than inflation, but consumers are still feeling the pinch. This is not just because of consumer inflation, but because other costs such as healthcare, electricity, transport and education are increasing at a much higher rate than the basket of goods measured by the CPI.

The way consumer inflation influences you also depends on whether the economy has correctly anticipated it or not. When inflation increases in line with expectations, then South Africans can prepare for it, and the cost to them won’t be too high. For example, banks will be able to adjust their interest rates and employees can negotiate their contracts to include wage hikes as prices go up.

Inflation and life insurance

Life insurance aims to put you in the same financial position – after an event like a death, illness or injury – you would have been if the event never happened. To make sure your cover lives up to that aim, life insurers spend a lot of time projecting interest rates and inflation, so the money you get paid out in the future will have kept up. Your monthly premiums and the value of the cover you’ve bought must increase yearly with your actual expenses. Schalk Malan, who is the executive director at BrightRock, a licensed financial services provider, says, ‘When you take out life insurance, it is important that you and your financial advisor discuss how future changes in inflation might impact on your life insurance cover. The best way for you to have this discussion is by looking at each of your financial needs, and how they’re likely to change over time, and then looking at how your cover needs to grow and change to keep up with your needs.’