How Inflation Affects Income And Buying Power - How To Calculate Real Wage Increase Explained

Описание: In this video we discuss how inflation affects income and buying power. We also cover how to calculate real wage increase when inflation is factored in. We go through several examples

Transcript/notes
Inflation has significant effects on income. As an example, let’s say that someone makes $40,000 per year and receives $700 raises per year for 3 years. So, after 3 years they make $42,100 as you see here. The rate of inflation for these 3 years is 2.4% each year.

To compare this person’s buying power after the 3 year period we need to do some calculations. We take the starting point of $40,000 and multiply that by the rate of inflation for the first year, so $40,000 times 1.024. Show why it’s 1.024 on the screen. Which equals $40,960. For the second year of inflation, we have $40,960 times 1.024, which equals $41,943.04. And for the third year, we have $41,943.04 times 1.024, which equals $42,949.67.

So, after three years, this person’s salary is $42,100 and to keep up with inflation, they would have needed to be making $42,949.67. This person would have needed to make $849.67 more over those 3 years to maintain the same purchasing power that they had 3 years ago.

To compare wage increases with the rate of inflation over the same period of time, you first need to convert the wage increase to a percentage. The formula for that is the percent change equals, the new number minus the original number divided by the original number times 100, then we attach a percent sign for a final answer.

As an example, let’s say someone makes $38,500 and receives raises of $1270.50 over a 1 year period, so their new salary is $39,770.50. Using the formula we have percent change equals $39,770.50 minus $38,500 divided by $38,500, which calculates to 3.3%.

If the rate of inflation over this 1 year period was 2.4%, then this person did better than the rate of inflation, 3.3% minus 2.4%, so, 0.9% better.

As you see, when considering inflation, this person didn’t actually receive a raise of $1270.50. To calculate their real raise, or real income, we use the formula, real income equals, annual income after the raise divided by 1 plus the inflation rate. So, in this case we have real income equals, $39,770.50 divided by 1 plus 0.024, which calculates to $38,838.38.

So, of the $1270.50 raise, only $338.38 represents a true increase, as inflation ate up $932.12 of the raise in salary.

Chapters/Timestamps
0:00 Example comparing a raise to inflation
0:20 Buying power calculation
1:03 To keep up with the rate of inflation
1:25 How to compare wage increase to inflation
1:44 Example comparing wage increase to inflation
2:17 Percent comparison of wage increase to inflation