The risk-free rate of return is a theoretical rate of return of an investment with zero risk. In practice, it is typically considered to be the yield on long-term government bonds of a highly stable economy, such as U.S. Treasury bonds or German Bunds. These are considered "risk-free" because the government is highly unlikely to default on its debt obligations.
However, for a broader economic perspective, especially when considering national economic growth as a proxy for risk-free returns, we can approximate it using the real GDP growth rate. The real GDP growth rate accounts for inflation, giving us a measure of the actual increase in goods and services produced by an economy, free from the distorting effects of price level changes.
The formula used in this calculator approximates the risk-free rate by first calculating the nominal GDP growth and then adjusting it for inflation to arrive at the real GDP growth.
How to Use This Calculator:
Current Nominal GDP: Enter the current year's Gross Domestic Product, measured in your local currency.
Previous Year's Nominal GDP: Enter the Gross Domestic Product from the preceding year, also in local currency.
Annual Inflation Rate: Input the percentage of inflation experienced over the past year.
The calculator will then output the estimated risk-free rate of return, represented by the real GDP growth rate. This value is crucial in various financial models, such as the Capital Asset Pricing Model (CAPM), to determine the expected return on an investment.
function calculateRiskFreeRate() {
var nominalGdpInput = document.getElementById("nominalGdp");
var previousNominalGdpInput = document.getElementById("previousNominalGdp");
var inflationRateInput = document.getElementById("inflationRate");
var resultDiv = document.getElementById("result");
var nominalGdp = parseFloat(nominalGdpInput.value);
var previousNominalGdp = parseFloat(previousNominalGdpInput.value);
var inflationRate = parseFloat(inflationRateInput.value);
if (isNaN(nominalGdp) || isNaN(previousNominalGdp) || isNaN(inflationRate)) {
resultDiv.innerHTML = "Please enter valid numbers for all fields.";
return;
}
if (previousNominalGdp === 0) {
resultDiv.innerHTML = "Previous year's GDP cannot be zero.";
return;
}
// Calculate nominal GDP growth rate
var nominalGrowthRate = ((nominalGdp – previousNominalGdp) / previousNominalGdp) * 100;
// Calculate real GDP growth rate (approximating risk-free rate)
// Real Growth Rate = ((1 + Nominal Growth Rate) / (1 + Inflation Rate)) – 1
var realGrowthRate = ((1 + (nominalGrowthRate / 100)) / (1 + (inflationRate / 100))) – 1;
// Convert to percentage for display
var riskFreeRatePercentage = realGrowthRate * 100;
resultDiv.innerHTML = "Estimated Risk-Free Rate of Return (Real GDP Growth): " + riskFreeRatePercentage.toFixed(2) + "%";
}