Question

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37) If the expected inflation rate was 2.5%, the expected real interest rate was 4.0%, and the real interest rate turned out to be 5.1%, then the nominal interest rate equals A) 1.4%. B) 1.5%. C) 2.6%. D) 6.5%.

Answer 1

Expected real interest rate is calculated as follows -

Expected real interest rate = Nominal interest rate - Expected inflation rate

So,

Nominal interest rate = Expected real interest rate + Expected inflation rate

Nominal interest rate = 4% + 2.5% = 6.5%

Thus,

The nominal interest rate equals 6.5%

Hence, the correct answer is the option (D).

Answer 2

ANSWER :

Expected Nominal interest rate 

= Expected Real rate + Expected Inflation rate (as per Fisher’s equation)

= 4.0% + 2.5% 

= 6.5% 

If actual real rate turned out to be 5.1%, the inflation rate was actually = 2.5 - (5.1 - 4) = 1.4%

Hence,

Actual Nominal rate 

= Actual Real rate + Actual inflation rate 

= 5.1% + 1.4%

= 6.5% 

Hence, OPTION D : 6.5% is the ANSWER.