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Let rr denote real interest rate
Let rn denote nominal interest rate
Let π denote rate of inflation
The Fisher equation is the following:
rn = rr + πThe equation can be used in either ex-ante (before) or ex-post (after) analysis. Ex-ante analysis is done in the beginning of investment (either before or immediate after investing). Because the actual rate of inflation is unknown, the expected value of inflation is used for π. Ex-post analysis is done at the end of the investment to check if the investment was worthwhile. The actual rate of inflation is known and therefore used for π.
This equation is named after Irving Fisher who was famous for his works on Theory of Interest. This equation existed before Fisher, but Fisher proposed a better approximation which is list below. The estimated equation can be derived from the proposed equation.
1 + rn = (1 + rr)(1 + π)
1 + rn = (1 + rr)(1 + π)Drop r * π because r + π >> r * π1 + rn = 1 + rr + π + rr * π
i = r + π + r * π
i = r + πNOTE: Do not confuse with Fisher's Equation of differential equations
See also yield, interest rate, inflation, Term Structure of Interest Rates