Assume inflation is 2.60% and the nominal (annual) interest rate is 6.35%. If the interest rate is held constant, but inflation rises to 5.25%, does it cost more or less in real terms to borrow money than when the inflation rate was 2.60%? Explain your answer and make sure to include your real interest rates in both situation.

Assume inflation is 2.60% and the nominal (annual) interest rate is 6.35%. If the interest rate is held constant, but inflation rises to 5.25%, does it cost more or less in real terms to borrow money than when the inflation rate was 2.60%? Explain your answer and make sure to include your real interest rates in both situation.

Financial Management: Theory & Practice

16th Edition

ISBN:9781337909730

Author:Brigham

Publisher:Brigham

Chapter4: Time Value Of Money

Section: Chapter Questions

Problem 12MC: (1) What is the value at the end of Year 3 of the following cash flow stream if the quoted interest...

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(1) What is the value at the end of Year 3 of the following cash flow stream if the quoted interest rate is 10%, compounded semiannually? (2) What is the PV of the same stream? (3) Is the stream an annuity? (4) An important rule is that you should never show a nominal rate on a time line or use it in calculations unless what condition holds? (Hint: Think of annual compounding, when INOM = EFF% = IPER.) What would be wrong with your answers to parts (1) and (2) if you used the nominal rate of 10% rather than the periodic rate, INOM/2 = 10%/2 = 5%?
Assume inflation is 2.60% and the nominal (annual) interest rate is 6.35%. If the interest rate is held constant, but inflation rises to 5.25%, does it cost more or less in real terms to borrow money than when the inflation rate was 2.60%? Explain your answer and make sure to include your real interest rates in both situations to earn full credit.
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