Lola wants to make an 6% real return on a loan that she is planning to make, and the expected inflation rate during the period of the loan is 5%. She should charge an interest rate of
A) 1%.
B) 6%.
C) 11%.
D) 16%.

Question

Quizplus · Accepted Answer

To calculate the interest rate that Lola should charge, we need to use the Fisher equation, which states that:

(1 + nominal interest rate) = (1 + real interest rate) x (1 + inflation rate)

We know that Lola wants to earn a real return of 6%, which means that her real interest rate is 0.06. We also know that the expected inflation rate is 5%. Substituting these values into the Fisher equation, we get:

(1 + nominal interest rate) = (1 + 0.06) x (1 + 0.05)
(1 + nominal interest rate) = 1.116
nominal interest rate = 0.116 or 11.6%

Therefore, Lola should charge an interest rate of 11%.

Lola Wants to Make an 6% Real Return on a Loan