You have won a contest and will receive $2,500 a year in real terms for the next 3 years. Each payment will be received at the end of the period with the first payment occurring one year from today. The relevant nominal discount rate is 6.3 percent and the inflation rate is 4.5 percent. What are your winnings worth today?

Question

Quizplus · Accepted Answer

The correct answer is A because the present value of the winnings is $7,249. This is calculated by discounting each of the three payments back to the present at the real discount rate of 1.8% (6.3% - 4.5%). The present value of the first payment is $2,439, the present value of the second payment is $2,373, and the present value of the third payment is $2,437. The total present value of the winnings is $7,249.

You Have Won a Contest and Will Receive $2,500 a Year