What is Inflation? plus Tracking Cash Flows on a Monthly Basis

You've probably once heard your parents or grandparents say something to this effect: "When I was a kid, a gallon of gasoline costed us only 25 cents!  Look at prices now!"

And it's not just the price of gasoline, it's also food, movie tickets, concert tickets, home prices, land, etc.

Fact is, most countries in the world experience this price deterioration of their currency - otherwise called inflation.  How much the purchasing power of a currency deteriorates per year is the annual inflation rate.

Do you know what the average annual rate of inflation in America has been since 1926?

Why do we have inflation?  What steps can you take to combat inflation and thereby preserve your wealth?

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The next topic we will cover today is how to track personal income and expenses in order to ensure that we end up with positive cash flow.  

Let's have a look at a sample spreadsheet:

Let's enter in a hypothetical person's income and expenses (we'll have to estimate what they may be for the first 3 months of the year).  Try to be as realistic as possible.  Once we do this, we can then calculate estimated total monthly income and expenses, subtract expenses from income to get monthly net income.  Did we end up positive?  If so, we're generating a budget surplus; if not, we're in budget deficit.

We can also calculate what % of our total income we're spending on specific expense categories. This is important if we want to put constraints (i.e. to budget) our % allocations to each category.  Please refer to the Kiplinger's article that I distributed in class last week. 

Some key budget % allocation pointers to keep in mind:

•  No more than 25% of your total income should be allocated to housing (rent/mortgage)

• You should try to get rid of as much debt as you can as soon as possible (mortgage, student loans, auto loan, credit card debt)

• You should be saving at least 10% of your total income towards a retirement account like an IRA or a 401K plan. This is known as PYI - pay yourself first.

• Live frugally, not lavishly. There is really no need to impress others with your wealth.

• Track your spending habits closely from month to month.  There are many instructional books and videos that you can refer to on this subject. To do this, you should use a spreadsheet, a program like Mint.com, or even a basic envelope allocation system. 

 The percentage expense allocations should appear in the second column from the left on the cash flow spreadsheet provided above.

Also, remember to prioritize these expenses with a "W" for wants or "N" for needs in the third column from the left of the spreadsheet, and in the first column from the left put an "F" for fixed expenses, a "V" for variable expenses, or a "P" for period expenses.

You should submit this spreadsheet exercise by next week, October 29th.  Extra credit will be given if you can include an expense pie chart on the third tab of the spreadsheet.