If a loan is discounted, relative to the stated rate of interest the real rate of interest is?

A. higher

B. lower

C. the same

Solutions

Expert Solution

Option B is correct: Lower

If a loan is discounted, relative to the stated rate of interest the real rate of interest is lower.

This is because of inflation. The expected rate of inflation is subtracted from the stated rate of interest to arrive at the real rate of interest. So, the real rate of interest will be lower than the stated rate of interest.

Example: Stated rate of interest = 4%

The expected inflation rate = 1.5%

The real rate of interest = Stated rate of interest - The expected inflation rate

The real rate of interest = 4% - 1.5%

The real rate of interest = 2.5%

This is lower than 4%

jeff jeffy answered 2 years ago

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