Real interest rate
The nominal rate minus inflation: the true cost of money.
The true cost of money
The real rate is the nominal interest rate minus inflation. It measures what an investment truly earns and what a loan truly costs. Borrowing at 4% with 5% inflation means repaying in depreciated money: the real rate is negative.
Where markets show it
Inflation-linked bonds (TIPS in the US, OATi in France) give a market real yield directly. The US 10-year real yield is one of the most important prices on the planet: when it rises, gold and growth stocks tend to fall.
- The Fisher relation; the approximation is fine for low rates
A 3% savings account with 2.5% inflation
- Nominal rate: 3%. Inflation: 2.5%.
- Exact: 1.03 / 1.025 - 1 = 0.49%.
- Approximate: 3 - 2.5 = 0.5%.
The purchasing power of the savings grows about 0.5% a year.
from -1% to +2.5% in two years
The US 10-year real yield (TIPS) was close to -1% at the end of 2021. With the Fed’s tightening it rose above +2.4% in autumn 2023, its highest since 2008. That sharp jump in the cost of capital weighed on real estate and tech stocks in 2022.
Common mistakes
- Comparing today’s nominal rate with past rather than expected inflation.
- Forgetting tax: the after-tax real rate is lower still.
Notitia newsroom · education, not investment advice.