What is inflation? Why your money buys less every year

Inflation is the reason ₹100 buys less today than it did when you were a child. This post shows how it works, with maths you can do on your fingers.

Inflation means the same things cost more as years pass. So the same money buys less.

A chai example

Today, one cup of chai costs ₹10. Say prices rise 6% a year. That is an example, not a forecast.

• After 1 year: ₹10 + 6% = ₹10.60
• After 2 years: about ₹11.24
• After 20 years: about ₹32

The chai did not change. Only the price did. So a ₹100 note that buys 10 cups today buys only about 3 cups in 20 years.

The rule of 72: how fast does money lose power?

Here is a quick trick. Divide 72 by the inflation rate. The answer is the number of years your money's buying power takes to halve.

So at 6%, ₹1 lakh kept in a cupboard still shows ₹1 lakh after 12 years. But it buys only what ₹50,000 buys today.

Inflation and your goals

Goals cost more by the time you reach them. Say a household spends ₹40,000 a month today. At 6% a year, in 20 years the same lifestyle needs about ₹1.28 lakh a month.

Education and medical costs often rise faster than everyday prices. That is why a goal calculator asks you to assume a rise in cost. Try the education goal calculator and change the inflation number to see what happens.

Real return: what you really earn

Your money earns interest. Inflation takes some of it back. What is left is your real return.

Real return ≈ interest earned − inflation

An example:

Now add tax. If your interest is taxed at 30%, the 7% becomes about 4.9%. That is below the 6% inflation, so your money's buying power slips even though the number in your account grows.

A savings account paying 3% against 6% inflation loses about 3% of buying power every year.

What can people do?

You cannot stop inflation. You can plan for it.

1. Add inflation to every goal. Do not plan with today's prices.
2. Match the tool to the time. For goals under 3 years, safety matters most. For goals many years away, some people keep a part in assets that have historically beaten inflation over long periods, such as equity. This is never guaranteed.
3. Raise your savings as your income rises. A yearly step-up helps your saving keep pace. See the step-up SIP calculator.

What to remember

1. Inflation makes the same things cost more each year.
2. Rule of 72: divide 72 by the inflation rate to see when buying power halves.
3. Look at the real return (interest minus inflation, after tax), not just the interest.

Next: FD, post office or EPF? Simple saving options compared

Mutual fund investments are subject to market risks, read all scheme related documents carefully. All numbers here are examples, not forecasts. This post is for education only and is not investment advice.