The time value of money means that money today is worth more than the same amount in the future.
Why:
- today’s money can earn interest
- inflation reduces future purchasing power
- future cash flows are uncertain
This idea is the foundation for:
Nominal vs. real interest rate
- Nominal rate includes inflation.
- Real rate adjusts for inflation.
Approximation:
If inflation rises while the nominal rate stays fixed, the real return falls.