Inflation Calculator: Guide to Purchasing Power Loss
Inflation is the decrease in the purchasing power of money due to a sustained increase in the general price level of goods and services. In this guide, you will learn how inflation affects your savings and how to calculate the time value of money.
Key Terms
- Inflation Rate: The percentage rate at which prices for goods and services rise over a specific period, usually a year.
- Purchasing Power: The amount of goods or services that one unit of currency can buy. When inflation rises, purchasing power falls.
- Adjusted Value (Future Value): The nominal amount of money required in the future to maintain the same purchasing power as a specific amount today.
- Time Value of Money: The principle that money available at the present time is worth more than the same amount in the future due to its potential earning capacity or inflation.
How Inflation Impacts Your Savings
Inflation doesn't change the nominal value of your bills, but it reduces what those bills can buy. For example, in an environment with 10% annual inflation, a basket of goods costing $100 today will cost $110 in a year. If your money remains stagnant, you have effectively lost purchasing power.
Step-by-Step Calculation Example
Let's calculate the future value required to maintain the purchasing power of $10,000 after 2 years with an average annual inflation rate of 5%:
- Compound Factor:
(1 + 0.05) * (1 + 0.05) = 1.1025 - Adjusted Value:
$10,000 * 1.1025 = $11,025 - Meaning: You will need $11,025 in two years to buy what $10,000 buys today.
To see how the value of money has changed over time or to plan for the future, use our Inflation Calculator Tool.