What is Real Income?

Real income is inflation-adjusted income or wages.

How Does Real Income Work?

For example, let's say John Doe works for Company XYZ. His salary is $100,000 per year. He started the job five years ago at $100,000 and has not had a raise since he took the job.

If the inflation rate is 3% per year, then the value of that $100,000 falls by 3% a year as goods and services get more expensive. As a result, after the first year on the job, John's salary is really able to buy only $97,000 of goods and services [$100,000 - (3% x $100,000) = $97,000]. In year two, John's salary is then worth only $94,090 [$97,000 - (3% x $97,000) = $94,090]. The longer this goes on, the less John's $100,000 salary buys. By the end of five years, John's salary would be 'worth' only $85,873.

Why Does Real Income Matter?

Real income is a measure of the purchasing power of wages. The concept is at the heart of many labor and salary negotiations.

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Paul Tracy
Paul Tracy

Paul has been a respected figure in the financial markets for more than two decades. Prior to starting InvestingAnswers, Paul founded and managed one of the most influential investment research firms in America, with more than 3 million monthly readers.

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