You will be able to adjust a spending estimate for inflation and choose a planning age.
Ask someone in their seventies what a plate of chicken rice cost when they started work and you'll hear a number that sounds made up. Nobody noticed the price climbing in any single year. Over forty years it climbed a lot. A retirement plan covers about that long, so whatever you spend today has to be grown to the prices you will actually pay.
Lesson 1.2, Estimate retirement spending from today's budget, gave Jasmine an estimate of S$40,000 a year at today's prices: S$26,000 essential and S$14,000 flexible. This lesson turns that into future dollars and settles how long the money has to last.
An estimate at today's prices is in current dollars, what the spending would cost if you retired tomorrow. To find what it will cost in a given future year, you grow it by inflation for each year in between. The result is in future dollars, sometimes called nominal dollars.
The arithmetic is compound growth: you multiply by one plus the inflation rate once for each year that passes, so Jasmine, who is 55 and plans to stop at 60, grows her essential spending five times.
With a long-run assumption of 2.5% a year, chosen for this example, her S$26,000 of essentials becomes about S$29,400 in the year she turns 60. By 85, thirty years from now, the same basket costs about S$54,500, more than double. As a rough guide, prices double about every 28 years at 2.5% a year and about every 20 years at 3.5%.
The growth doesn't stop at retirement. A plan that grows spending to age 60 and then holds it flat will look fine for a decade and fall apart in your eighties, when you can least fix it. Every year after you stop work also needs its own inflation step.
There is one shortcut people use, and it works if you apply it consistently. You can keep everything at today's prices and use investment returns after inflation, called real returns. Or you can grow spending in future dollars and use returns before inflation. Mixing the two, today's spending with returns before inflation, makes any plan look far better than it is. This course uses future dollars, because CPF LIFE payouts on a level plan stay fixed in dollars while prices rise, and that is easier to see when everything is written in the money of the year.
No one knows what inflation will average over the next forty years, so you pick an assumption and test it.
Look first at what has happened. The Department of Statistics publishes the Consumer Price Index going back decades on SingStat, and MAS publishes its own measure of core inflation, which leaves out accommodation and private transport. Look at long stretches, twenty years or more, rather than the last two years, which may have been unusually high or low. Write down the source and the period you looked at.
Then pick a central rate and a higher one. Jasmine chose 2.5% as her central assumption and 3.5% as her test, both figures for this example. At 3.5%, her essentials at 60 come to about S$30,900 instead of S$29,400, a small difference. At 85, they come to about S$73,000 instead of S$54,500. The gap grows every year, which is why a single decimal point matters so much in a long plan.
Your own inflation may differ from the national figure. Healthcare prices have tended to rise faster than the general index, and an older person spends a larger share on it, which is why lesson 1.4 gives healthcare its own line.
The second choice is how long the plan must last, and the tempting answer, life expectancy, gives you a plan that fails far too often.
Life expectancy is an average. Roughly half of people live longer than the average for their group, and some live a lot longer. A plan built to last exactly to the average fails for about half of the people who use it, and fails at the worst possible age, when they are too old to go back to work.
Two more things push the figure up. Life expectancy at birth includes people who die young, so a person who has already reached 55 can expect to live longer than the figure for a newborn. And women in Singapore, on average, live longer than men. The Department of Statistics publishes complete life tables on SingStat, and the line for your age and sex gives the average number of further years people like you live.
So choose a planning age, the age your money must last to, comfortably beyond that average. Many planners use somewhere between 90 and 100. Family history and your own health shift it. Jasmine's mother is 82 and still walks to the market every morning, and her grandmother lived into her nineties. Jasmine chose 95, and module 5 will test what happens if she reaches 100.
Planning to 95 doesn't mean you expect to live that long. It means you've decided that running out of money at 88 is a worse outcome than leaving something behind.
A higher inflation rate and a later planning age both make your plan more expensive, and you want to see that cost now. Both are cheap to test on paper and very expensive to discover at 85. CPF LIFE, which pays for life however long that is, takes some of the sting out of the planning age, and module 2 shows how much.
Before the activity, open the SingStat CPI tables and the complete life tables for your age and sex. Read across them, then decide your two figures and note exactly where each one came from.
Write the inflation rate and planning age you will use and the source you checked for each.
Junxiong-WFG Organisation is an authorised representative of AIA Financial Advisers Private Limited (Reg. No. 201715016G).