Question

nominal interest rate

Answer 1

ANSWER:

Nominal interest rate is the interest rate that is there on the loans given and the best way to understand a nominal interest rate is via example but before that we need to understand what does nominal interest rate equlas to?

according to fisher's equation:

1 + nominal rate = (1 + real rate) * (1 + inflation rate)

so lets assume that a bank gives you a loan at 10% interest rate ( nominal interest rate) and the inflation is supposed to be 3% , then in reality the interest earned by the bank will be 6.79%.

1 + 10% = (1 + real rate) * (1 + 3%)

1.1 = (1 + real rate) * 1.03

1.1 / 1.03 = 1 + real rate

real rate = 1.0679 - 1

real rate = 0.0679 or 6.79%

so if you are taking a loan at 10% interest and inflation is 3% , then in reality you are only paying 6.79% ( real rate) to the bank.

one more thing to note down is that if there was 0 inflation , then the real rate would equal to nominal interest rates.