The origins of risk and inflation.

I'm currently reading Peter Bernstein's "Against The Gods." It's getting my mind going and thinking about how long risk has been around and yet how new of a mathematical concept it is for us humans.

Luca Paccioli came up with a question about how to divide the stakes of an unfinished game of chance between two players when one of them is ahead. It wasn't answered for a few hundred years until some nerds in the renaissance sought out to find the answer.

Considering how prevalent and popular gambling is and has been through history, it's crazy to me that the answer to this question was answered only 400 years ago, how did people determine bet sizes or odds?! It got me thinking about how the transfer of mathematics from the east to the west aided in hypothesizing about this question in the first place.

Considering how poorly people place bets in the market nowadays, it seems like we haven't learned much about how risk affects our daily lives. I don't think many people actively think about risk and where they are exposed the most.

To me, people risk their futures for the present. They don't have an iota of understanding as to what they are risking. Yes, shiny things are fun, but so are big shiny things, which we only acquire through saving (unless you have an insanely high income).

When we move the level of actual savers, we see people putting money in their bank accounts and letting it sit there (accumulating near negligible interest) without understanding the risk of inflation. In Canada, since 1915, we have averaged an inflation rate of 3.15% per year. This means every year the purchasing power of a dollar is reduced by 3.15%. A dollar today buys 97 cents of goods next year (obviously these rates change year-to-year but you get the point).

So how does this affect you? With the 3.15% inflation rate I mentioned about your purchasing power drops in half in approximately 23 years. This means your dollar today buys 50 cents of goods in 23 years. The only way to fight this inflation is to place bets on assets that will accumulate interest over that 3.15% threshold. For that dollar today to have the same purchasing power in 23 years you will need to double it.

Better get to compounding!