INFLATION ADJUSTED INTEREST RATE Meaning and
Definition
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The term "inflation adjusted interest rate" refers to the interest rate that is adjusted or modified to reflect the effects of inflation. It is a financial concept used to describe the real return on an investment or loan, taking into account the impact of inflation on the purchasing power of money over time.
Inflation is the gradual increase in the overall price level of goods and services in an economy, which erodes the value of money. When inflation occurs, a fixed amount of money is able to purchase fewer goods and services compared to before. Therefore, the inflation adjusted interest rate is an attempt to measure the actual growth of an investment or the real cost of borrowing, after accounting for the effects of inflation.
To calculate the inflation adjusted interest rate, the nominal interest rate is adjusted by subtracting the inflation rate. This adjustment creates a rate that reflects the purchasing power of the investment or loan. The inflation adjusted interest rate provides a more accurate representation of the true rate of return or cost of borrowing, allowing investors, borrowers, and policymakers to make informed decisions.
By using the inflation adjusted interest rate, individuals and businesses can assess the actual value and growth potential of their investments or loans in real terms, enabling them to make sound financial strategies and avoid being misled by nominal rates that do not account for changes in purchasing power caused by inflation.
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