One big misconception in personal finance is how fast money actually loses purchasing power.
Headline inflation, known as the consumer price index (CPI), is the default yardstick, but money likely loses value faster than that. By one reasonable though imperfect estimate, it loses half its purchasing power every 13 years – not the 30-plus years that CPI implies. The clearest evidence is the price growth of assets sitting outside the CPI basket.
Gold has outperformed every major asset class so far this century. Treated as a rough proxy for money’s real value, the way it implicitly served before the gold standard ended in 1971, gold’s price points to an even starker decline: over the past 20 years it has appreciated by an average of more than 10.3 per cent annually, implying money has lost half its value roughly every seven years.
That’s best read as an upper-bound illustration, not a rival to the 13-year estimate above, since gold’s price also reflects safe-haven and central-bank demand, not devaluation alone.
CPI likely understates money devaluation, since it tracks a fixed basket of consumer goods rather than assets. Statistics Canada’s CPI, for instance, doesn’t track the purchase price of an existing home.
Instead, it captures the cost of rent for renters and, for owners, mortgage interest, depreciation, property taxes, insurance, and maintenance. Capital appreciation on the home itself isn’t treated as consumer inflation.
CPI also reflects forces moving in opposite directions. Technology and productivity can push prices down while monetary expansion and other factors push them up. CPI records the resulting net price change, not the contribution from each force.
Inflation holds steady at 3% in August as gas and food price-growth slows
So what could supplement CPI as the main tool for measuring the erosion of money’s value? There is no universally accepted answer. One useful starting point is money-supply growth relative to real economic growth. Canada’s M2 – the total cash held by households and businesses in chequing accounts, savings accounts, and term deposits like GICs – compounded at roughly 7.3 per cent annually over the past 20 years. Subtracting real GDP growth leaves a difference of about 5.5 per cent annually over the past 20 years and 4.4 per cent over the past 40.
This measure is a rough proxy for monetary dilution, not an official measure of inflation. However, the concept itself is not unconventional. In a 2023 speech on money and inflation, European Central Bank executive board member Isabel Schnabel defined “excess money growth” as broad-money growth above real GDP growth.
She noted that long-run averages of inflation and excess money growth historically tended toward a one-to-one relationship, although that relationship weakened substantially during periods of low and stable inflation.
That doesn’t make 5.5 per cent Canada’s “true inflation rate.” Money velocity – the rate at which money changes hands – interest rates, credit conditions and demand for money complicate the relationship. Nor does it prove monetary expansion caused asset prices to rise at similar rates.
For personal finance, the distinction matters. Someone buying groceries cares about consumer inflation. Someone saving for a home cares about house prices. Someone preparing for retirement cares about the cost of acquiring income-producing assets.
CPI tells us how quickly money is losing purchasing power over consumption. It doesn’t tell us how quickly cash is losing ground against the assets we hope to own.
Hanif Bayat, PhD, is the CEO and founder of WOWA.ca, a Canadian personal finance platform.