How does inflation affect your money and your investments?

What is inflation, and how is it measured?#

Inflation is a general upward movement of prices, and it reduces purchasing power, meaning how much each dollar can buy^[1]. A single price going up is not inflation; inflation is when prices across the economy rise on average.

In the U.S., the most widely quoted measure is the Consumer Price Index. The Bureau of Labor Statistics defines the CPI as a measure of the average change over time in the prices paid by urban consumers for a market basket of consumer goods and services^[2]. Each month the BLS reports how much that basket's price changed. Other countries publish their own price indexes, and methods differ by country. Our note on how CPI inflation is measured explains the basket in detail.

These figures were published by the BLS on September 11, 2026^[3]. Inflation changes every month, so treat them as a snapshot and check the BLS for the current number.

How does inflation shrink the value of money over time?#

Economists separate nominal values, the actual dollar amounts, from real values, which adjust for inflation. The Federal Reserve Bank of St. Louis uses coffee as an example: it cost 5 cents in 1868, and the purchasing power of 5 cents has decreased since then^[5]. The nickel did not change. What it can buy did.

The same thing happens to savings. If prices rise 3.4% in a year, a basket that cost $100 now costs $103.40. A balance that stayed at $100 buys a little less of it. Repeat that for decades and the effect is large.

What is the difference between a nominal and a real return?#

The return printed on a statement is the nominal return. The real return is what is left after inflation. A Federal Reserve education podcast puts the rule simply: the real interest rate equals the nominal interest rate minus the inflation rate^[6]. Its example: a 3% interest rate with 3% inflation leaves your purchasing power the same^[6]. And cash kept at home earns 0%, so with 3% inflation its real return is minus 3%^[6].

How does inflation affect cash, bonds and stocks differently?#

• Cash and savings. Safe from market falls, but exposed to rising prices. The SEC calls inflation risk the principal concern for cash equivalents: the risk that inflation will outpace and erode returns over time^[7].
• Fixed-rate bonds. A bond that pays a fixed rate of interest loses buying power when prices rise, which Investor.gov lists as a risk for investors receiving a fixed rate of interest^[8]. See what a bond is.
• Inflation-protected bonds. Treasury Inflation-Protected Securities (TIPS) are U.S. government notes and bonds whose principal is adjusted based on changes in the Consumer Price Index^[8]. Read about Treasury bills, notes and bonds.
• Stocks. Stocks have historically had the highest returns of the three major asset categories, along with the greatest risk^[7]. Their prices can fall in any year, including years of high inflation, so they are not a guaranteed shield.

Why does the Federal Reserve aim for 2% inflation instead of zero?#

The Federal Reserve has said that inflation of 2 percent over the longer run, measured by the annual change in the price index for personal consumption expenditures (PCE), is most consistent with its mandate^[4]. Note that this is a different index from the CPI, so the two numbers are not directly comparable.

The Fed's reasoning is about predictability: when households and businesses can reasonably expect inflation to remain low and stable, they can make sound decisions about saving, borrowing and investing^[4]. For a saver, that goal is a useful benchmark. Even at 2% a year, prices rise by about 22% over 10 years, so money that earns nothing still loses ground. Our note on how the Fed sets interest rates covers the tools it uses.

What can an investor do about inflation?#

1. 1

   Think in real terms

   Compare every return with inflation, not with zero. A 4% return during 3.4% inflation is a small real gain, not a 4% gain.

2. 2

   Keep cash for its job

   Emergency money belongs in insured savings even if it loses a little buying power. The cost of inflation matters most for money that sits in cash for many years.

3. 3

   Match the investment to the time frame

   Longer horizons can hold more of the assets with higher historical returns, such as stocks^[7], while accepting their bigger swings. See risk and return explained.

4. 4

   Watch costs as well as inflation

   Fees come out of the same return that inflation is already shrinking. A 1% yearly fee during 3% inflation means the investment has to earn about 4% a year just to keep its buying power. Read how investment fees affect returns.

What mistakes do beginners make?#

1. Reading a growing balance as growing wealth

   A balance can rise every year and still buy less. Check the return against inflation before deciding whether money is really growing.

2. Comparing different inflation measures

   The CPI and the PCE index measure different baskets in different ways. Compare like with like, and note the month and index of any figure you quote.

3. Keeping long-term money in cash out of caution

   For goals decades away, low-interest cash steadily loses buying power. That trade-off may be acceptable, but it should be a choice rather than a default.

4. Assuming any one asset protects against inflation every year

   No investment is certain to beat inflation every year. Even bonds, including inflation-linked ones, may be worth more or less than face value if sold before maturity^[8].