Effects of Inflation: Engineering Economy Lecture No. 12 Sunday, May 14, 2017
Effects of Inflation: Engineering Economy Lecture No. 12 Sunday, May 14, 2017
Effects of Inflation: Engineering Economy Lecture No. 12 Sunday, May 14, 2017
Engineering Economy
Lecture no. 12
Sunday, May 14, 2017
Inflation Definition
Dollars t 2
Dollars t1 =
inflation rate between t1 and t 2
The Inflation rate f
Constant-value Dollars
future dollars
Constant-Value dollars = n
(1+f)
Future Dollars
n
Future dollars = today's dollars(1+f) .
Examples to Consider
1
PF
(1 i f if ) n
Defining if
1
PF F ( P / F , i f , n )
(1 i f ) n
Example
Cost in PW @
Year Future P/F,i(f),n combined
n Dollars i-rate
0 $5,000 1.0000 $5,000
1 $5,200 0.8741 $4,545
2 $5,408 0.7641 $4,132
3 $5,624 0.6679 $3,757
4 $5,849 0.5838 $3,415
Solve:
F = P(1+if)n = P(F/P,if,n)
We apply the following equation for if:
if = (i + f + if) [ 14.6 ]
Case 1: Example
P (1 i f ) n
F
(1 f ) n
P ( F / P, i f , n)
F
(1 f ) n
Finding the REAL Interest Rate
With inflation;
Prices and costs increase over time;
Future $$ are worth less out in time;
At t = n, more $$ are needed;
We only need to apply the inflation rate to the
present sum;
F = P(1+f)n;
F = $1,000(1.04)7 = $1,316
Case 4: Inflation and Real Interest
Given P = $1,000
f = 4%
Real interest rate of 5.77%;
Calculate if as;
if = 0.0577 + 0.04 + 0.0577(0.04) = 0.10
Then:
F = $1,000 (F/P,10%,7) = $1,948
Case 4: Apply the if Interest Rate
PW of F with inflation:
P = F(P/F,if,n).
Future worth of P in constant-value dollars
with the same purchasing power:
F = P(F/P,i,n).
F to cover a current amount with no interest:
F = P(F/P,f,n)
Summary
Hyperinflation:
Very high f values;
Available funds are expended
immediately;
Because of increasing costs due to a
rapid loss of purchasing power.
Summary