How does inflation impact the time value of money?

Inflation significantly affects the time value of money by decreasing the purchasing power of future amounts of money. This means that as inflation rises, the same amount of money will buy fewer goods and services in the future than it would today. For example, if you have $100 today, that amount will likely stretch further in terms of what you can purchase compared to that same $100 a decade from now, should inflation continue to rise.

The time value of money concept highlights the idea that a dollar today is worth more than a dollar in the future due to its potential earning capacity. However, if inflation is factored in, future money must be adjusted to account for the decreased purchasing power. Therefore, understanding how inflation impacts the time value of money is crucial for financial planning, investment strategies, and savings, as it influences how one evaluates the worth of future cash flows.

The other options do not accurately reflect the relationship between inflation and the time value of money. For instance, inflation does not increase the value of future money or have no impact on the principle. While it might lead to higher interest rates, this does not inherently involve a direct relationship with the time value of money. Thus, the correct understanding is that inflation ultimately decreases the future value of money