Investing in a fixed deposit for two decades may seem like a secure choice, but it comes with a hidden risk called inflation. Over such a long period, inflation can erode up to 60 percent of your returns, significantly reducing the purchasing power of your savings.

While fixed deposits offer assured returns and are popular, it’s essential to diversify your investments. Incorporating market-linked options like equity mutual funds can help mitigate the impact of inflation and potentially enhance your overall returns. In India, fixed deposits have long been favored by retail investors for their reliability and perceived safety.

However, it’s crucial to understand that inflation gradually diminishes the real value of savings, highlighting the importance of considering alternative investment avenues for long-term financial security.

The false sense of security offered by fixed deposits

Inflation refers to the gradual increase in the prices of goods and services, leading to a decline in the purchasing power of currency over time. Simply put, the amount of goods or services you could buy with Rs 100 today may decrease in the future due to rising prices.

Fixed deposits have long been favored by a significant portion of the Indian populace, owing to their perceived safety and guaranteed returns. The concept of securing a sum of money at a fixed interest rate, with the assurance of receiving both the principal and interest upon maturity, provides a sense of reliability. However, amidst this sense of security lies a crucial aspect often overlooked – the impact of inflation.

Fixed deposits, conversely, represent financial assets provided by banks wherein a lump sum is deposited for a fixed duration at a prearranged interest rate. Renowned for their stability and assured returns, they serve as a favored choice for conservative investors, especially seniors, seeking reliability in their investments.

Let’s consider an investment of Rs 1 crore in a fixed deposit offering a 6% annual interest rate. Initially, this may appear to yield a promising return. Yet, when we factor in an annual inflation rate of five percent, the true implications become apparent.

At the first year, your fixed deposit investment may have grown to Rs 1.06 crore in nominal terms. However, after adjusting for inflation, its real value is approximately Rs 1.01 crore. Despite the apparent growth in nominal terms, inflation significantly diminishes the actual purchasing power of your investment, resulting in only minimal real gain.

By the 10th year, your fixed deposit may yield a pre-inflation return of Rs 1.79 crore, but post-inflation, it’s just Rs 1.10 crore. Despite the nominal increase, the real purchasing power of the investment barely grows, highlighting the subtle impact of inflation.

Fast forward to the 20th year, your pre-inflation return might reach Rs 3.21 crore, but post-inflation, it’s merely Rs 1.21 crore. Inflation has eroded nearly Rs 2 crore—or 62 percent—of your fixed deposit returns.

These calculations emphasize a crucial aspect for Indian retail investors, relying heavily on fixed deposits for post-retirement income. While the nominal value of fixed deposits may seem to rise, inflation significantly reduces their real value and purchasing power over time. This erosion affects the savings many rely on for daily expenses, medical costs, and other essentials.

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