Question

The nominal interest rate is 6%. Expected inflation is 2%. Actual inflation is 1%. Calculate the ex-ante and ex-post real interest rates. Who benefits from lower actual inflation

Answer 1

1. Ex-ante real interest rate is:

= 4%

2. Ex-post real interest rate is:

= 5%

3. The LENDER benefits from lower actual inflation. By this, the Ex-ante real interest rate is lower than the Ex-post real interest rate at which the borrower will repay the loan.

Step-by-step explanation:

a) Data and Calculations:

Nominal interest = 6%

Expected inflation = 2%

Actual inflation = 1%

Ex-ante real interest rate = 4% (6% - 2%)

Ex-post real interest rate = 5% (6% - 1%)

b) The implication is that inflation is lower than expected, and this benefits the lender at the expense of the borrower. The opposite is applicable when the inflation is higher than expected, and the result benefits the borrower at the expense of the lender.