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22 October, 10:15

You lent $700 to a friend for one year at a nominal rate of interest of 4 percent. Inflation during that year was 3 percent. Did you experience an increase or decrease in the purchasing power of your money? How much did it increase or decrease?

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  1. 22 October, 12:27
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    Answer and Explanation:

    Since the inflation is lesser than the nominal rate, the real rate has been positive.

    Purchasing power increased by the real rate of interest

    As per Fisher Equation

    (1 + Real rate) = (1 + Nominal rate) / (1 + Inflation)

    = (1.04/1.03)

    = 1.009701

    Real rate = 0.009701

    = 0.97%

    Purchasing power increased by 0.97%
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