What is inflation?
Inflation is the rate at which the general level of prices for goods and services rises over time, causing the purchasing power of currency to fall. A moderate level of inflation is considered normal in a healthy economy.
How does inflation affect the value of money?
As inflation increases, each unit of currency buys fewer goods and services. For example, if inflation is 3% per year, something that costs $100 today will cost about $103 next year, meaning $100 will have less purchasing power.
What is the difference between future value and present value?
Future value (FV) calculates how much a current amount will be worth in the future given inflation. Present value (PV) calculates what a future amount is worth in today's dollars. Both use the same formula but in reverse directions.
What is the formula for adjusting for inflation?
The formula is FV = PV × (1 + i)^y for future value, where PV is the present amount, i is the annual inflation rate, and y is the number of years. For present value, rearrange to PV = FV / (1 + i)^y.
How much does inflation erode savings over 10 years at 3%?
At 3% annual inflation, $10,000 in today's money will need to become approximately $13,439 in 10 years to maintain the same purchasing power. That means your $10,000 savings effectively loses about $2,560 in purchasing power over that period.
What is a good rate of return to beat inflation?
To grow your wealth in real terms, you need investments that return more than the inflation rate. Historically, a diversified portfolio of stocks has returned about 7-10% annually, comfortably beating the average 2-3% inflation rate over the long term.