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AP Macroeconomics 4.2 Nominal V Real Interest Rates Questions

Relate nominal and real interest rates to expected and actual inflation, calculating borrowing costs, returns, and gains from unexpected inflation.

Syllabus
Effective Fall 2022
Course
AP Macroeconomics

Exam points

  • distinguish nominal rates from expected and actual real interest rates
  • calculate actual real interest as the nominal rate minus actual inflation
  • rearrange the Fisher relationship for nominal interest, expected real interest, or expected inflation
  • predict the nominal-rate response to a change in expected inflation
  • trace unexpected inflation into the actual real return on a fixed-rate loan

Covered syllabus points

MEA-3.B—a. Define the nominal and real interest rate. b. Explain the relationship between changes in nominal interest rates, expected…

Question 1

[Maximum number: 3]

Inflation and expected inflation are important determinants of economic activity.

Question (a)

(a)

Given the increase in the expected rate of inflation from part (b),

[ 2 ]

Question (i)

(i)

will the nominal interest rate on new loans increase, decrease, or remain unchanged?

[ 1 ]

Question (ii)

(ii)

will the real interest rate on new loans increase, decrease, or remain unchanged?

[ 1 ]

Question (b)

(b)

Assume that the nominal interest rate is 8 percent. Borrowers and lenders expect the rate of inflation to be 3 percent, and the growth rate of real gross domestic product is 4 percent. Calculate the real interest rate.

[ 1 ]
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