Real Income

Real income is the income of individuals or nations after adjusting for inflation. It is calculated by subtracting inflation from the nominal income. Real variables, such as real income, real GDP, and real interest rate are variables that are measured in physical units, while nominal variables such as nominal income, nominal GDP, and nominal interest rate are measured in monetary units. Therefore, real income is a more useful indicator of well-being, since it is based on the amount of goods and services that can be purchased with the income. According to the classical dichotomy theory, real variables and nominal variables are separate in the long-run, meaning they are not influenced by each other. In other words if the nominal starting income was 100 and there was a 10% inflation (general rise in prices e.g.: what cost 10 now costs 11) rate. So now with 100 you can buy less and if your income is not adjusted by inflation (did not rise by 10%),your real income has dropped 10%.