Question

In which situation is the real interest rate highest?

A) The nominal interest rate is 25% and the inflation rate is 30%

B) The nominal interest rate is 2% and the inflation rate is 1%

C) The nominal interest rate is 8% and the inflation rate 5%

D) The nominal interest rate is 11% and the inflation rate 9%

Please provide explanation thanks

Answer 1

	1 + nominal interest rate = (1+ real interest rate)*(1+ inflation)
A)	Nominal interest rate			25%
	Inflation			30%
	1+.25 = (1+real interest rate)*(1+.30)
	(1+real interest rate) = 1.25/1.30
	1+real interest rate = .961538
	real interest rate = -.03846.
	The real interest rate is -3.85%.
B)	Nominal interest rate			2%
	Inflation			1%
	1+.02 = (1+real interest rate)*(1+.01)
	(1+real interest rate) = 1.02/1.01
	1+real interest rate = 1.009901
	real interest rate = .009901
	The real interest rate is .99%.
C)	Nominal interest rate			8%
	Inflation			5%
	1+.08 = (1+real interest rate)*(1+.05)
	(1+real interest rate) = 1.08/1.05
	1+real interest rate = 1.028571
	real interest rate = .028571
	The real interest rate is 2.86%.
D)	Nominal interest rate			11%
	Inflation			9%
	1+.11 = (1+real interest rate)*(1+.09)
	(1+real interest rate) = 1.11/1.09
	1+real interest rate = 1.018349
	real interest rate = .018349
	The real interest rate is 1.83%.
	The real interest rate is highest in C) that is 2.86%.
	The real interest rate is highest in C
	where the nominal interest rate is 8%
	and the inflation is 5%.