Treatment of relation between nominal-real interest rates

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Frank and Sarah and Irving Irving Fisher is the real hero of the Frank and Sarah problem. His treatment of the relation between nominal and real interest rates and inflation suggests that if Frank wants a two percent real interest rate , the nominal rate that he must charge is the rate of inflation plus two percent. Since in this problem everyone expects a ten percent rate of inflation, the nominal interest rate which would guarantee a two percent real return is twelve percent. In part (b), with the rate of inflation uncertain, an indexing scheme such that the interest payment was 2 percent more than the rate of inflation could be used to guarantee a two percent real return .

Reference no: EM13994921

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