A = P(1 + r/n)nt

This is the compound interest formula. When it works for you, it builds wealth exponentially.
With inflation, the formula works against you.
The math is identical — only the direction changes.

Inflation: The Math That Makes Future Money Smaller

6-minute read

Last updated March 2026

Everyone conceptually grasps inflation.

It's 2%. Maybe 3%. Some years, 6%. Prices go up. Money buys less.

You've already factored it in.
Or at least you think you have.

Since 1960, the long-term average inflation rate in Canada and the United States has been 3.75% per year. (Full CPI dataset.)

At 3.75% inflation, purchasing power is cut in half over 20 years.

Cut in half.

That means $1,000,000 saved today has the buying power of about $500,000 in two decades.

This is not a stress scenario.
It is the long-term average.

The Problem Most Plans Don't Model

Most financial plans model returns.
Many model fees.
Few model what inflation does over decades.

If you are building long-term projections in nominal dollars, the math is already wrong. Inflation-adjusted planning isn't a refinement — it's a requirement.

Inflation is not optional. It must be modeled.

This article shows the arithmetic. No opinions. No hidden assumptions. Just arithmetic.

Inflation Is Exponential

Compounding grows a number by repeatedly multiplying by the same factor. Inflation works the same way — in reverse.

Inflation is exponential, not linear.

At 3.75% growth:

1 × 1.0375^20 ≈ 2.09

At 3.75% inflation:

1 ÷ 1.0375^20 ≈ 0.48

After 20 years at 3.75% inflation, $1 has roughly half the purchasing power it has today.

Same math. Opposite direction.

What Inflation Is

Inflation is the sustained rise in the general price level over time. When prices rise, each dollar buys fewer goods and services than it did before.

Inflation does not reduce the number of dollars you hold.
It reduces what those dollars can purchase.

A savings account balance can grow while purchasing power quietly falls. The number rises. The reality it represents does not.

The Core Equation

There are two calculations that matter.

1. Future Cost of Today's Dollars

Future Cost = Cost Today × (1 + i)^t

Where i is the inflation rate and t is time in years.

This tells you what today's lifestyle costs in future dollars.

2. Present Value of Future Dollars

Present Value = Future Dollars ÷ (1 + i)^t

This tells you what future dollars are worth in today's purchasing power.

Everything else follows from these two equations.

A Concrete Example: Retirement Income

Suppose you want $10,000 per month in today's dollars in retirement.

If inflation averages 3.75% and retirement begins 20 years from now:

10,000 × 1.0375^20 ≈ 20,900

That same lifestyle requires about $20,900 per month in 20-year dollars.

The number doubled because prices doubled. The lifestyle did not change.

A Second Example: The Portfolio Target

Assume you believe you need $3,000,000 in today's dollars to retire.

If retirement is 20 years away:

3,000,000 × 1.0375^20 ≈ 6,270,000

A "$3 million retirement target" becomes roughly $6.3 million in 20-year dollars.

The original $3 million was correct — in today's dollars. Failing to inflate it does not make it more achievable. It only makes the math wrong.

Nominal vs Real Returns

Investment returns are quoted in nominal terms. What matters is real return — the inflation-adjusted rate of growth in actual purchasing power.

1 + r_real = (1 + r_nominal) ÷ (1 + i)

If your portfolio earns 7% and inflation is 3.75%:

1.07 ÷ 1.0375 − 1 ≈ 3.13%

Your statement shows 7% growth.
Purchasing power grows at 3.13%.

Over decades, that difference dominates outcomes.

Nominal vs Real Portfolio Growth over 20 years Starting at $100,000 with a 7% nominal return and 3.75% inflation over 20 years. The nominal line reaches approximately $387,000. The real line, adjusted for inflation, reaches approximately $185,000. $0 $100k $200k $300k $400k $500k 0 10 20 Years Nominal ≈ $387k Real ≈ $185k

Real value = Nominal ÷ (1.0375^t)  |  Starting value: $100,000

Final Framing

Inflation is not dramatic.
Its effects are.

It does not cause sudden collapse.
It causes gradual distortion.

Plans built in nominal dollars create false confidence. Targets set without inflation drift from reality. Returns quoted without inflation adjustment mislead.

Over long periods, small annual differences become large structural errors.

Inflation compounds whether you account for it or not.

You can ignore it.
You cannot escape it.

If your savings compound faster than inflation, purchasing power rises.
If they compound more slowly, purchasing power falls.

There is no opinion in that statement.
No hidden assumptions.
Only arithmetic.

Frequently Asked Questions About Inflation

Inflation is the sustained rise in the general price level over time. When prices rise, each dollar buys fewer goods and services than it did before. Inflation does not reduce the number of dollars you hold — it reduces what those dollars can purchase.
Since 1960, the long-term average annual inflation rate in Canada and the United States has been approximately 3.75% per year, based on historical CPI data. At that rate, purchasing power is cut in half over roughly 20 years. See the full CPI dataset for year-by-year figures.
Inflation compounds exponentially. At 3.75% per year, purchasing power is cut in half in approximately 20 years. That means $1,000,000 saved today has the buying power of roughly $500,000 two decades from now — at the long-term average rate, not a worst-case scenario.

Nominal return is the stated rate of investment growth before adjusting for inflation. Real return measures actual growth in purchasing power, calculated as:

1 + r_real = (1 + r_nominal) ÷ (1 + i)

At 7% nominal return and 3.75% inflation, real return is approximately 3.13%. Your statement shows 7% growth; your purchasing power grows at 3.13%.

Retirement income targets are typically stated in today's dollars. Without adjusting for inflation, the nominal amount required in future years is significantly underestimated. A $3 million target in today's dollars becomes roughly $6.3 million in 20-year dollars at 3.75% inflation. Plans built in nominal dollars create false confidence.

Future Cost = Cost Today × (1 + i)^t

Where i is the annual inflation rate and t is time in years. This tells you what today's lifestyle costs in future dollars.

Present Value = Future Dollars ÷ (1 + i)^t

This expresses future amounts in real (today's) dollars, allowing meaningful comparison across time.

If your savings compound more slowly than inflation, purchasing power falls — even if the nominal balance grows. A portfolio earning 2% annually while inflation runs at 3.75% is losing real value every year. The number on your statement rises; what it can buy shrinks. This is why real return, not nominal return, is the figure that matters for long-term financial planning.

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