If expected inflation is constant and the nominal interest rate decreases by 2 percentage points,then the real interest rate
A)increases by 2 percentage points.
B)increases,but by less than 2 percentage points.
C)decreases,but by less than 2 percentage points.
D)decreases by 2 percentage points.

Question

Quizplus · Accepted Answer

The real interest rate is calculated by subtracting the expected inflation rate from the nominal interest rate. If the nominal interest rate decreases by 2 percentage points and expected inflation is constant, then the real interest rate will decrease by the same amount, i.e. 2 percentage points. This is because the decrease in nominal interest rate will not be offset by any increase in expected inflation. Hence, the correct answer is D.

If Expected Inflation Is Constant and the Nominal Interest Rate