Ch 3.4 real and nominal interest rates

Other expressions for GDP

GDP = National income = output = total spending = total income

Who is a winner of unexpected inflation?

IR = Real IR + expected inflation rate ex) IR = 3% real + 4% expected But, if for some reason, the inflation rate is *unexpectedly* 5%, then since the IR is fixed when the bank loans money, the *real* IR would decrease to 2%. So from the perspective of the person borrowing money, he's a *winner* because the amount he *really* pays is smaller than expected. - anyone *holding a lot of money* will be a loser due to higher inf rates Bank = loser

What if the inflation rate is unexpectedly smaller?

IR = Real IR + expected inflation rate ie) IR = 3% real + 4% expected But if the inflation rate is unexpectedly 3%, then the real interest rate becomes 4%. So, *borrower = loser* cuz he pays more than he was supposed to *Bank = winner* the bank gets more *real* money than supposed to.

What to watch out for with fisher questions

In a fisher question, you have to make sure you are comparing the right things. ie) The inflation rate rises by 10%, then which factors must increase by10% for real *output* to remain constant? I was stupid and automatically chose Nominal *interest rate*. But clearly, the question is asking about *output*. So the only correct answer is something along the lines of *national income/GDP/total spending*

fisher's effect with GDP and wage

*growth rate of nominal wage rate = growth rate of real wage rate + inflation rate* --> Again, the nominal wage rate doesn't really say anything. The real wage rate is what your income is actually worth. *growth rate of nominal GDP = growth rate of real wage rate + inflation rate* but be CAREFUL since there are other things GDP can be expressed as.

fisher's effect

*Nominal interest rate = Inflation rate + Real interest rate* So Inflation rate and real interest rate(purchasing power) have an inversely proportional relationship Nominal interest rate tells you how fast the number of dollars in your bank account rises over time, but the real interest rate tells you what your money is actually worth.

returns on investment

the money that banks give to people who deposited money with additional interest

Borrowing costs

the money that the person who loaned money from the bank returns with additional interest