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Inflation and Interest Rates?
Suppose you lend your roommate $100 for a year at 9% nominal interest rate.
A. How many dollars of interest will your roommate pay you at the end of the year?
i think that's just 9 dollars?
B. Suppose you both expect the inflation rate to be 5% during the year of the loan. What do you both expect the real interest rate to be on your loan?
4%?
C. Suppose actual inflation at the end of the year is 8%. What is the actual real interest rate generated by this loan?
1%?
D. In the case described above, actual inflation turned out to be high than expected. Which of the two of yuo had the unexpected gain or loss and why?
E. What would the real interest rate on the loan have been if the actual inflation rate had turned out to be a whomping 11%?
F. Explain what it means to have a negative real interest rate.
3 Answers
- tonytbagLv 51 decade agoFavorite Answer
You would have lost on this loan because the money devalued because the price level (inflation) increased.
E) real interest rate would be -2%. (yes you can have a negative interest rate)
F) It means that price level has increased by a greater amount that the initial rate of interest. In other words, price level (inflation) has increased at a quicker rate than your loan term. Therefore, you end up losing money in the end because your return is worthless.
P.S. your answers that you filled in are correct
- ChanakyaLv 41 decade ago
If inflation is 11% and interest rate is 9%.
For 100$ sure you will get 109$. But in actual value you will get only of 98$ because of inflation. Your balance sheet shows you got 109$.
this may happen because of dollar fall and inflation
Its easy to understand in the year 2000 we were getting 1.21 euros for dollar. But right now we are getting only 0.68 euros. Means If we have 100 dollars in year 2000 right now that become worth only 56.19 dollars. Means we lost so much wealth already compared to other nations. We are not aware of this loss as our bank account calculate only dollars. And I dont thing any bank may give us 43.89% interest in seven years. So this is negative interest.
- 1 decade ago
I would never ask my friend for the interest rate,, he is my friend finally... I love all my friends,, hahahh,, sorry ,,, jocking.
