Question

Can the actual real rate of interest be negative? When? Can the expected real rate be negative?

Answer 1

Answer: To answer this question, we must examine the components associated with a real rate of interest. Formula of the real rate is expressed as follows:

Real rate = Nominal rate - inflation

Based on the information above, it is clear that a negative real rate can exist, if the rate of inflation exceeds the nominal rate. While unusual, this can occur during times of rapidly increasing inflation, where the market lags behind in setting nominal rates. As the market adjusts to the inflationary environment, the nominal rate will typhically rise above the level of inflation. However, during periods of extreme monetary easing, the nominal rate may remain below the rate of inflation, allowing a negative real rate to persist ( and be expected).