Question

Pablo recently lent $5,000 to his friend Kristine to open a bakery. She promised to pay him back with interest within one year. Pablo and Kristine agreed on a nominal interest rate of 5.5 percent. If the annual rate of inflation is 0.5 percent, what kind of profit can Pablo expect to receive for his investment?

How much interest will Pablo receive from his investment?

$200 due to a real interest rate of 4 percent

$250 due to a real interest rate of 5 percent

$300 due to a real interest rate of 6 percent

$350 due to a real interest rate of 7 percent

Answer 1

$250 due to a real interest rate of 5 percent

Step-by-step explanation:

I just took it

Answer 2

$250 due to a real interest rate of 5 percent

Step-by-step explanation:

To calculate interest it is necessary to account for inflation, this is what is called real interest rate. Although Pablo and Christine agreed on a 5.5 interest, they take into account potential losses due to the increase in prices accounting for inflation. The way we calculate real interest is by subtracting the annual inflation rate from the nominal interest rate. Therefore instead of a 5.5% interest, the real interest is 5%, which amounts to $250.