Inflation is expected to be 3 percent over the next year. You desire an annual real rate of return of 2.5 percent on your investments. What market rate of interest would have to be offered on a one-year Treasury security for you to consider making an investment?
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1.5 percent |
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5.5 percent |
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4.5 percent |
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0.5 percent |
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None of the above |
| 1 + nominal interest rate = (1+ real interest rate)*(1+ inflation) | |||||||||
| Inflation | 0.03 | ||||||||
| Annual real rate of return/real interest rate | 0.025 | ||||||||
| Find the nominal interest rate and that is the market rate of interest that would have to be offered on a one-year Treasury security | |||||||||
| 1 + nominal interest rate = (1.025)*(1.03) | |||||||||
| 1 + nominal interest rate = 1.05575 | |||||||||
| Nominal interest rate = .05575 | |||||||||
| The market rate of interest that would have to be offered on a one-year Treasury security | |||||||||
| to consider making the investment is: | |||||||||
| 5.5%. |
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