Real interest rate
An interest rate adjusted for inflation, showing how much purchasing power a saver gains or a borrower actually pays.
What it means
The real interest rate strips inflation out of the stated, or nominal, rate. If a savings account pays 5% but prices rise 3%, the saver’s buying power grows only about 2%. If inflation exceeds the nominal rate, the real rate is negative and savings lose purchasing power even as the balance grows.
For borrowers, high inflation lowers the real cost of fixed-rate debt, because it is repaid with dollars that buy less. The simple subtraction is a close approximation when rates are low; the exact version divides rather than subtracts.
Formula
Real rate = (1 + nominal rate) ÷ (1 + inflation rate) − 1, approximately nominal rate − inflation rate
- nominal rate = stated interest rate as a decimal
- inflation rate = rate of price increases over the same period as a decimal
Example
Suppose a CD pays 5% and inflation is 3%. The quick estimate is 2%. The exact real rate is 1.05 ÷ 1.03 − 1, or about 1.94%.
How it’s used
- Judging whether savings are really growing
- Comparing returns across periods with different inflation
- Understanding inflation-protected investments
Related terms
Educational information only, not financial, tax or legal advice. Rules, limits and rates change; check the IRS, your lender or plan, or a qualified professional before acting.