Question

Ohnny's interest rate on his saving account is 3% per year, and inflation is 2.5% per year. After one year, what would the money in his account buy?

a) Less than today because 3% is greater than 2.5%
b) More than today because interest is earned on the account
c) More than today because 3% is greater than 2.5%
d) Less than today because the inflation rate is greater than 0

Answer 1

The money in Johnny's savings account will be able to buy more after one year because the interest rate is slightly higher than the inflation rate.

Step-by-step explanation:

If Johnny's savings account has an interest rate of 3% per year and the rate of inflation is 2.5% per year, we can determine the real value of the money in his account after one year. The real interest rate can be roughly calculated by subtracting the inflation rate from the nominal interest rate, which in this case is 3% - 2.5% = 0.5%. Therefore, after one year, the purchasing power of the money in Johnny's savings account increases slightly because the interest rate is slightly higher than the inflation rate. This means the correct answer would be (c) More than today because 3% is greater than 2.5%. Johnny's savings would be able to buy more after one year compared to today.