Suppose Bob considers borrowing $100 from Sheila. They both think that a 4 percent real interest rate would be fair, but they are aware of a 30 percent capital gain tax. Therefore, they think of the fair 4 percent real interest rate as an after-tax rate. How much should Bob pay to Sheila in interest, such that the after-tax real interest rate would be 4 percent, if they expect inflation to be 6 percent? What if the expected inflation was 8 percent? How does this affect Bob's incentive to borrow?

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The Answer of Suppose Bob considers borrowing $100 from Sheila. They both think that a 4 percent real interest rate would be fair, but they are aware of a 30 percent capital gain tax. Therefore, they think of the fair 4 percent real interest rate as an after-tax rate. How much should Bob pay to Sheila in interest, such that the after-tax real interest rate would be 4 percent, if they expect inflation to be 6 percent? What if the expected inflation was 8 percent? How does this affect Bob's incentive to borrow?

Suppose Bob Considers Borrowing $100 from Sheila