Interest but no gain: the Fisher effect and why savers lose money even as their balance grows

Earnings on savings accounts are eroded by inflation. For instance, inflation in Canada was 3.2% for the year ending May 2026 while traditional savings accounts at banks offered lower interest rates than this figure. The gap between these two finance concepts has been referenced as the Fisher Effect.

Named after Irving Fisher, this economic principle highlights that the difference between nominal interest rates and rate of inflation represents the true interest rate that is earned on savings accounts. In essence, the real or actual annual rate of interest you earn on the money in your savings account equals the nominal (or printed) rate minus the inflation rate.

The Fisher Effect formula is the most useful equation for savers to be familiar with:

Real Rate ≈ Nominal Rate − Inflation Rate

If, for example, an individual has an account with a nominal rate of 3% while inflation increases prices by 3.2%, the net impact would be a negative real rate of approximately -0.2%. Therefore, more money is listed on paper; however, with inflation at 3.2%, you now have less purchasing power for each dollar you have on deposit compared to the previous year.

When inflation consistently exceeds the amount of interest you earn on savings, this situation will cause your savings to gradually decrease. When I initially invested $10,000 in the legacy account with an interest rate well below the inflation rate, after one year my account had an increased balance but the total purchasing power of the dollar had dropped. While my account had earned interest, inflation had caused prices to increase beyond what my bank had given me in nominal terms. This illustrates why, according to economists, simply stating a headline interest rate is not informative; the only figure that matters when determining the value of an investment is the net result of the investment less the inflation rate.

Due to the power of money illusion, an increase in the amount of money in a person's account gives a false impression of wealth.

Savers frequently believe they are earning interest; however, due to money illusion, they view wealth in terms of the face value of money rather than the actual value of money. A growing balance on your account gives the illusion of forward movement, and is increasing in nominal terms. However, when comparing your nominal balance to your real balance, you may find your nominal balance for the same year represents a small loss in real terms compared to the previous year. People view wealth in a totally different manner than economists do, primarily due to the massive differences in the way people view the nominal and real values of their assets. As wage negotiations, pension planning, and household budgets are all based on the same misunderstanding, converting nominal figures into real figures has become one of the more subtle successes of an economics education.

While central banks establish the policy rate, they do not set the rate to the consumer for their deposits.

Central banks do not create an economic vacuum when they decide on a policy rate; rather, they establish a ceiling for consumer savings accounts based on the policy rate. For example, on July 15, 2026 the Bank of Canada maintained their policy rate of 2.25%, or the sixth consecutive time that bank had held their policy rate. Although the policy rate is a ceiling for the retail deposit rates offered by banks, almost all banks do not pass through the entire policy rate to their customers with instant access to their accounts. The amount of difference between what the central bank has set as the policy rate and what an ordinary saver will receive represents the point at which the real value or "real return" on savings is taken away. When a saver has their savings account paying a fraction of what is offered in the central bank policy rate, that saver is effectively lending their bank the money in their savings account at a loss to them relative to the real return.

Wherever you are located in the world, you should use the same methodology to compare your rates to inflation.

The process is similar in every country. For example, in Canada many daily savings accounts pay less than 1%; however GICs, or Guaranteed Investment Certificates, typically have terms of one to five years and pay rates closer to 3%, which allow consumers to narrow the gap with inflation and bring their negative real return close to break-even. Therefore, when placing your money in a savings account, it is advantageous to compare here how your rate of return measures against inflation rather than assuming that any positive interest rate represents a real gain. Whether the currency is Canadian dollars or British pounds, your savings account provides nominal security; however, it is only when the nominal rate of return exceeds the inflation rate that your savings account truly protects your purchasing power.