Suppose the government must borrow 1,000 goods in period 1. Let the gross real marginal product of capital equal 1.07. Assume that people always want to hold fiat money balances worth a total of 100 goods and that the fiat money stock in period 1 is $10,000. Suppose people expect the government to increase the fiat money stock by 100 percent and that the population is constant.
a. What will the nominal net interest rate be?
b. What will the real value of the debt in period 2?
c. What will it be if the fiat money stock rises by 10 percent but this rise is unexpected?