Final answer:
The present value of future income Y1 with a real interest rate r is calculated using the formula PV = Y1 / (1 + r). The present value is the worth of future income in today's dollars, adjusted for the time value of money.
Step-by-step explanation:
If your future income is Y1 and the real interest rate is denoted by r, the present value of your future income can be calculated using the following formula:
PV = Y1 / (1 + r)
The present value (PV) is what your future income (Y1) is worth in today's dollars, taking into account the time value of money. The real interest rate (r) is the rate at which the present value of future payments is discounted. As an example, if you are to receive $20 million in one year and the real interest rate is 5%, the present value of that future income would be:
PV = $20 million / (1 + 0.05) = $19.05 million
This calculation tells us how much the $20 million to be received in the future is worth today, allowing us to compare it with money that we have right now.