The time value of money (TVM) assumes a dollar in the present is worth more than a dollar in the future because of variables such as 澳洲幸运5官方开奖结果体彩网:inflation and interest rates. Inflation is the general increase in prices, which means that꧟ the value of money depreciates oꦑver time as a result of that change in the general level of prices. A dollar in the future will not be able to buy the same value of goods as it does today.

Changes in the 澳洲幸运5官方开奖结果体彩网:price level are reflected in the 澳洲幸运5官方开奖结果体彩网:interest rate. The interest rate is charged by financial institutions on loans (e.g., a mortgage or a car loan) to individuals or businesses and TVM is taken into account in setting the rate. Also, the interest rate is what individuals 澳洲幸运5官方开奖结果体彩网:ea🅺rn on their money by investing it, rather than letting it sit idle in cash, hence another reason why a dollar today will be worth more than a dollar in the futꦛure.

In fact, one dollar today is worth half as much (in terms of 澳洲幸运5官方开奖结果体彩网:purchasing power) as the same dollar two decades ago and just one-third as much as three decades ago.

Discounted Cash Flows

TVM is also described as 澳洲幸运5官方开奖结果体彩网:discounted cash flow (DCF). DCF is a technique used to determine the 澳洲幸运5官方开奖结果体彩网:present value of a certain amount of money when received at a future date. The interest rate is used as the 澳洲幸运5官方开奖结果体彩网:discounting 𝔍factor, which can be found by using a present value (PV) table.

A PV table shows discount factors from time 0 (i.e., the current day) onward. The later money is received, the less value it holds, and $1 today is worth more than $1 received at a date in the future. At time 0, the discount factor is 1, and as time goes by, the discount factor decreases. A 澳洲幸运5官方开奖结果体彩网:present value calculator is ꦺused to obtain the value of $1 or any other sum of money over different time periods.

For example, if an individual has $100 and leaves it in cash rather than investing it, the value of that $100 declines. However, if the money is deposited in a 澳洲幸运5官方开奖结果体彩网:savings account, the bank pays interest, which depending o𝓡n the rate, could keep up with inflation. Therefore, it is best to deposit the money in a savings account or in an asset that appreciates in value over time. A PV calculator can be used to determine the amount of money required in relation to present versus future consumption.

Opportunity Cost

It's also important to look at 澳洲幸运5官方开奖结果体彩网:opportunity costs when considering TVM and the use of a dollar. For example, if you own a company and purc𒈔hase a new piece of machinery that results in a return of 3% a year🤡, but you could have put those same funds in an investment account and received a return of 5% a year, the opportunity cost is the 2% you forgo by purchasing the machinery.

The same theory can be applied if you make an investment returning X amount, but that amount is significantly lower than the high 澳洲幸运5官方开奖结果体彩网:annual percentage rate (APR) on your credit card being incurred on de♛bt tha♋t you have not paid off. The time value of money always involves an opportunity cost.

The Bottom Line

The time value of money is a simple truth that states that a dollar toda🧸y is not the same value as a dollar at a future date due to the economic realities of inflation and interest rates. Investing money today and earning interest on it that outperforms the rate of inflation will ensure that your money today continues to be worth more than the same amount of money in the future.