Question

Describe the difference between nominal and real interest rates. Calculate the missing value in each of...

Describe the difference between nominal and real interest rates. Calculate the missing value in each of the following scenarios:

Expected inflation is 4% and the nominal interest rate is 6%, what is the real interest rate?

The real interest rate is 2% and the nominal interest rate is 3%, what is expected inflation?

Expected inflation is -1% and the real interest rate is 1%, what is the nominal interest rate?

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Answer #1

Nominal interest rate does not adjust for the inflation. It does not take inflation into consideration. The interest rate that is stated on bonds and loans.

Real interest rate takes inflation into account and adjusts for inflation. It is the real rate of a loan or bond.

Real interest rate = Nominal inflation rate-expected inflation

a. real interest rate = 6%-4% = 2%

b. 2%= 3%- expected inflation

Expected inflation = 1%

c. 1% =nominal interest rate+1%

nominal interest rate = 0%

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