Final answer:
The nominal interest rate increases when the money growth rate rises, as lenders demand higher rates to offset increased inflation. The nominal rate does not factor in inflation, which is critical for understanding the actual cost or yield of a loan or investment. Taxes are levied on nominal gains, further complicating the borrower's or investor's net gain.
Step-by-step explanation:
The question asks which statement about the nominal interest rate is true, especially in relation to changes in the money growth rate. The correct answer is that the nominal interest rate typically increases when the money growth rate rises. This is because as the supply of money increases, the tendency is for inflation to rise, which generally leads lenders to demand higher nominal interest rates to compensate for the loss of purchasing power over time.
It's important to understand that the nominal interest rate does not account for inflation. The real interest rate, on the other hand, is the nominal rate adjusted for inflation. This distinction is critical: if the nominal rate is at 7% and inflation is at 3%, the real interest rate is 4%. However, if money growth causes higher inflation, lenders will raise the nominal rate to maintain their real return.
Taxes also complicate the issue, as income tax is assessed on the nominal interest. Therefore, investors can pay taxes on interest earned even if their real purchasing power hasn't increased, or if inflation outpaces the nominal interest rate, they could face a decrease in real purchasing power while still owing taxes on nominal gains.