Question

Suppose the nominal interest rate on car loans is 11% per year, and both actual and expected inflation are equal to 4%.

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	11	4	4
Immediately after increase in MS	11	4	6

Now suppose the Fed unexpectedly increases the growth rate of the money supply, causing the inflation rate to rise unexpectedly from 4% to 6% per year.

Complete the second row of the table by filling in the expected and actual real interest rates on car loans immediately after the increase in the money supply (MS).

The unanticipated change in inflation arbitrarily benefits   .

Now consider the long-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   to

per year.

Answer 1