The expected real interest rate approximately equals
A) the nominal interest rate minus the tax rate.
B) the nominal interest rate minus the expected rate of inflation.
C) the nominal interest rate plus the expected rate of inflation.
D) the yield to maturity on a coupon bond held to maturity.

Question

Quizplus · Accepted Answer

The expected real interest rate is equal to the nominal interest rate minus the expected rate of inflation. This is because inflation erodes the purchasing power of money, so investors require compensation for this loss in value. The nominal interest rate includes compensation for inflation, so by subtracting the expected rate of inflation, one can find the true return on investment in terms of purchasing power.

The Expected Real Interest Rate Approximately Equals