What is a real interest rate?

A real interest rate is a nominal interest rate adjusted for inflation. The approximate calculation subtracts inflation for the same period from the nominal rate. A forward-looking assessment uses expected inflation; a completed-period purchasing-power calculation uses realized inflation.

Example

In a hypothetical one-year account with no taxes or fees, $1,000 grows to $1,050 at 5% nominal interest. If prices rise 3% over the year, the ending amount is worth $1,050 / 1.03 ≈ $1,019.42 in starting-period purchasing power. The exact real return is approximately 1.94%, compared with the approximate 2% obtained by subtraction.

The compound formula is (1 + nominal rate) / (1 + inflation rate) − 1, with rates expressed as decimals, such as 0.05 for 5%. The shortcut and exact result can diverge more noticeably at higher rates.

Match the time horizons of the nominal rate and inflation measure. An expected real return is not an achieved return: the inflation estimate can change. A policy rate, deposit rate and bond yield also refer to different instruments. State which rate the calculation uses.

The two-case calculation in our Fed rates and crypto analysis shows how real conditions can tighten during a nominal rate cut. Easing does not automatically imply rising crypto prices.