Question

The real rate of interest of a risk free bond is equal to: a The nominal...

The real rate of interest of a risk free bond is equal to:

a The nominal interest rate minus the premium for expected inflation

b The nominal interest rate plus the risk premium

c The nominal interest rate minus the risk premium

d The nominal interest rate plus a plus the premium for expected inflation

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Answer #1

The real rate of interest of a risk free bond is equal to the nominal interest rate minus the risk premium because real rate of interst is the rate which does not include inflation or any other premium which is associated with the bond like maturity. On the other hand nominal interest rate is the rate which is inclusive of risk premium i.e. Nomainal interest rate = real rate + risk adjusted rate (which includes maturity premium, interest rate risk, and inflation premium.

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