Steven puts money into an account.One year later he sees that he has 6 percent more dollars and that his money will buy 2 percent more goods.
A)The nominal interest rate was 8 percent and the inflation rate was 6 percent.
B)The nominal interest rate was 6 percent and the inflation rate was 4 percent.
C)The nominal interest rate was 4 percent and the inflation rate was 2 percent.
D)None of the above is correct.

Question

Quizplus · Accepted Answer

If Steven's money increased by 6%, then his nominal interest rate must have been 6% + the real interest rate. If his money can buy 2% more goods, then his inflation rate must have been 2%. Therefore, the nominal interest rate was 6% + the inflation rate of 2% = 8%. To find the real interest rate (the increase in purchasing power), we subtract the inflation rate from the nominal interest rate: 8% - 2% = 6%. So the real interest rate was 6%, which matches with the real interest rate in Option B (nominal interest rate of 6% - inflation rate of 4%).

Steven Puts Money into an Account