A risk a bank takes on by offering long-term fixed interest rate loans is:
A) the loss of real returns due to anticipated inflation
B) the gain that could be made from offering short-term loans
C) the loss of real returns due to an unexpected inflation surprise
D) the gains that could have been made if the money were invested in an alternative asset
E) the loss of customers wanting flexible interest loans

Question

Quizplus · Accepted Answer

By offering long-term fixed interest rate loans, a bank is exposed to the risk of unexpected inflation. This means that if inflation rises higher than what was anticipated when the loan was made, the bank may experience a loss in real returns. This is because the interest rate on the loan will remain fixed, and will not adjust upwards to reflect the higher inflation rate. As a result, the bank may end up receiving less in real terms than what it had planned for at the time the loan was made.

A Risk a Bank Takes on by Offering Long-Term Fixed