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Suppose the nominal interest rate on savings accounts is 9% per year, and both actual and expected inflation are equal to 3%. Complete the first
- Suppose the nominal interest rate on savings accounts is 9% per year, and both actual and expected inflation are equal to 3%.
- Complete the first row of the table by filling in the expected real interest rate and the actual real interest rate before any change in the money supply.
Time Period | Nominal Interest Rate | Expected Inflation | Actual Inflation | Expected Real Interest Rate | Actual Real Interest Rate |
(Percent) | (Percent) | (Percent) | (Percent) | (Percent) | |
Before increase in MS | 9 | 3 | 3 | ||
Immediately after increase in MS | 9 | 3 | 6 |
- Now suppose the Fed unexpectedly increases the growth rate of the money supply, causing the inflation rate to rise unexpectedly from 3% to 6% per year.
- Complete the second row of the table by filling in the expected and actual real interest rates on savings accounts immediatelyafter the increase in the money supply (MS).
- The unanticipated change in inflation arbitrarilyharms(lenders or borrowers)Pick one and explain.
Now consider thelong-run impact of the change in money growth and inflation. According to the Fisher effect, as expectations adjust to the new, higher inflation rate, the nominal interest rate will(rise/fall)to _____% per year.
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