Inflation indexed bonds

We have been hearing that Reserve bank of India is planning to come out with Inflation indexed bonds. The belief is this will save our investment from being lost because of inflation as the return on investment would be based on the inflation. Internationally this is how it works. You put an amount in an inflation indexed bond at 5% for 10 years. Every year you will get 5% of the interest.

So how is it different from normal fixed deposit? In Inflation indexed bonds the amount invested would change based on the inflation. The adjustment of principle amount would take place on a predetermined date. So if on the predetermined date if the inflation rises by 10%, the principle will rise by 10% and the next interest of 5% would be paid on the new calculated principle. So at the end if inflation goes up, you earn or else you lose.

So we said so many things about inflation and said if it goes up you get more and it goes down you will get less, but which inflation index would be used. Based on the latest information RBI plans to use Wholesale price index, which does not take into account services.

 

So what should we do invest, it all depends on the rate of interest and how inflation is moving. It looks like inflation is coming down, but we need to take a long term view. In the short term it seems to be coming down. Which way would inflation be moving in the long run....Keep guessing.