What Is Inflation?
Inflation is the rate at which the general level of prices for goods and services rises over time, which correspondingly reduces the purchasing power of money. If inflation runs at 3% per year, something that costs $100 today will cost $103 next year — and your $100 bill will only buy what $97 worth of goods cost today. Over long periods, even modest inflation significantly erodes the real value of money.
The U.S. Federal Reserve targets an inflation rate of approximately 2% per year, viewing this as consistent with price stability and a healthy economy. The historical U.S. average has been closer to 3.1% since 1913, though it has varied widely — from deflation during the Great Depression to double-digit inflation in the 1970s and early 1980s, to an 8.0% spike in 2022.
How This Calculator Works
Enter the initial dollar amount, the start year, the end year, and an assumed annual inflation rate. The calculator compounds the inflation rate over the number of years to show two things: the nominal equivalent (how much you would need in the end year to match the purchasing power of the original amount in the start year) and the real purchasing power (what the original amount is actually worth in the end year, which declines as inflation rises). The difference between these two figures is the purchasing power loss — money that inflation effectively "took."
The Rule of 70: How Long to Halve Purchasing Power
A quick mental shortcut: divide 70 by the annual inflation rate to estimate how many years it takes for purchasing power to be cut in half. At 3% inflation, that is roughly 23 years. At 7%, just 10 years. This rule illustrates why even "low" inflation is a serious long-term concern for fixed-income holders, savers who keep money in cash, and pension recipients whose benefits are not cost-of-living adjusted.
Who Is Most Hurt by Inflation?
- Savers with cash: Money sitting in a low-yield savings account loses real value every year inflation exceeds the interest rate. A 0.5% savings rate during a 6% inflation year means a 5.5% real loss.
- Fixed-income bondholders: A bond paying 3% interest is worth less in real terms when inflation rises to 5%. Bond prices fall and real returns go negative.
- Retirees on fixed pensions: If a pension benefit is not adjusted for inflation (a cost-of-living adjustment, or COLA), its purchasing power decreases every year.
- Borrowers at fixed rates benefit: Inflation works in favor of borrowers, since they repay their loans with dollars that are worth less than when they borrowed them.
How to Protect Against Inflation
No investment is entirely immune to inflation, but some assets have historically provided better protection than cash:
- Equities (stocks): Over long periods, stock returns have outpaced inflation. The S&P 500 has delivered roughly 7% annually in real (inflation-adjusted) terms since 1950.
- Treasury Inflation-Protected Securities (TIPS): U.S. government bonds whose principal adjusts with the Consumer Price Index. A direct inflation hedge.
- I-Bonds: U.S. savings bonds with a variable rate tied to CPI. Currently limited to $10,000 per person per year.
- Real estate: Property values and rents have historically risen with or above inflation over long periods, though with more volatility and illiquidity than bonds.
- Commodities: Gold and other commodities often rise during inflationary periods, though they produce no income and can be volatile.
Inflation and Your Retirement Plan
Inflation is the silent threat to retirement savings. A nest egg of $1,000,000 sounds substantial, but at 3% annual inflation it only has $744,000 of today's purchasing power in 10 years and $544,000 in 20 years. Anyone planning for a 20–30 year retirement must account for inflation by either targeting a larger portfolio, maintaining meaningful equity exposure, or spending conservatively in early retirement years to preserve capital.