What is the Fisher Equation
The Fisher equation is a mathematical formula that shows the relationship between interest rates and inflation. It’s named after economist Irving Fisher, who first published it. The Fisher equation is often used in circumstances where investors or lenders request an extra reward to compensate for losses in purchasing power caused by high inflation. As we said, the Fisher equation is a relationship between interest rates and inflation. More specifically, it’s the formula for the real interest rate. The real interest rate is the rate of return after taking inflation into account. In other words, it’s the percentage of an investment’s value that you can expect to keep after accounting for inflation.The formula of the Fisher equation
The formula of the Fisher equation is(1 + i) = (1 + r) (1 + π)
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Example of the Fisher Equation
Now that we know what the Fisher equation is and how to use it, let’s look at an example. Imagine you’re considering investing in a company. The company says that it will pay you a 5% return on your investment each year. However, you’re worried about inflation. You know that the inflation rate is 3%. So, you use the Fisher equation to calculate the real interest rate. Here’s how you would do that First, you would plug in the values for i (5%), r (3%), and π (5%). Then, you would solve for r (1 + 5%) =(1 + r) (1 + 3%) r = 2% This means that the real interest rate is 2%. In other words, after accounting for inflation, you can expect to earn a 2% return on your investment each year.Conclusion
The Fisher equation is an important concept in economics that explains the relationship between interest rates and inflation. It’s a useful tool for businesses and investors who want to calculate the real interest rate during inflation. In this article, we explained what the Fisher equation is, how to calculate it, and provided an example. Thanks for reading.Further questions
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