Economists forecast the following inflation rates for the next four years: What inflation adjustment should be included in the interest rate on a three-year loan made today?

Question

Economists forecast the following inflation rates for the next four years:  What inflation adjustment should be included in the interest rate on a three-year loan made today?

Quizplus · Accepted Answer

The inflation adjustment should reflect the expected average inflation rate over the life of the loan, which in this case is four years. Option A is incorrect because inflation is expected to be higher than 3% over the next four years. Option C is incorrect because it assumes the lender will be lending the money again in three years, while the loan is for three years. Option D is incorrect because it only considers the lender's perspective and does not reflect the average expected inflation rate over the life of the loan.

Economists Forecast the Following Inflation Rates for the Next Four