Money & Banking Chapter 6 Real Interest Rates

The argument that an increase in the inflation rate, in equilibrium, will cause an increase in the nominal interest rate but will not change the expected real interest rate is called the ________ hypothesis. a. Fisher b. Friedman c. Feldstein d. Federal Reserve

a. Fisher

The demand and supply for debt securities depend more on the ________-tax expected real interest rate than on the ________-tax expected real interest rate. a. zero; before b. after; before c. before; after d. after; ex-post

b. after; before

The amount of interest paid on a debt security in dollar terms as a percent of the principal is called the expected real interest rate. realized real interest rate. after-tax real interest rate. nominal interest rate.

nominal interest rate.

If you expect inflation to be 3 percent next year and you buy a one-year bond paying 4 percent interest, what is your after-tax expected real interest rate if your tax rate is 30 percent? −0.2 percent 0.0 percent 0.3 percent 1.0 percent

−0.2 percent

The government taxes an investor's ________ income. a. nominal b. expected c. inflation-adjusted d. real

a. nominal

past inflation discount factor

For every dollar's worth of goods and services bought at an earlier date, how much money it would take now to buy the same amount of goods and services after N years of inflation at rate π.

future inflation discount factor

For every dollar's worth of goods and services bought today, how much money it will take in 'N' years to buy the same amount of goods and services when the average future inflation rate is π^e.

nominal interest rates

The amount of interest paid on a debt security in nominal (dollar) terms as a percentage of the principal (in dollar terms).

Fisher hypothesis

The argument that an increase in the inflation rate, in equilibrium, will cause and increase in the nominal interest rate but will not change the expected real interest rate.

realized real interest rate

The nominal interest rate adjusted for actual inflation; also called ex-post real interest rate.

expected real interest rate

The nominal interest rate adjusted for expected inflation; also called ex-ante real interest rate.

real interest rates

The nominal interest rate adjusted for expected or actual inflation.

Which of the following is NOT a method used by investors and borrowers to try to avoid the problems of unexpected inflation and inflation uncertainty? a. Sharing the risk of changes in the inflation rate b. Creating adjustable-rate mortgages c. Agreeing to borrow or lend in nominal terms rather than in real terms d. Agreeing to borrow or lend in real terms rather than in nominal terms

a. Sharing the risk of changes in the inflation rate

The nominal interest rate adjusted for expected or actual inflation is called the ________ interest rate. a. real b. mortgage c. compound d. annual

a. real

The real present-value formula can be used to find the ________. a. expected future return for a given expected real interest rate b. average past return given real income received and the original amount invested c. future real amounts given real income received d. real yield to maturity of a security given the past price of the security

b. average past return given real income received and the original amount invested

The ________ inflation discount factor tells, for every dollar's worth of goods and services bought today, how much money it will take in N years to buy the same amount of goods and services when the average future inflation rate is πe a. present b. future c. past d. real

b. future

In a recession, the demand curve for bonds shifts ________ and the supply curve shifts ________. a. left; right b. left; left c. right; left d. right; right

b. left; left

Investors find inflation-indexed securities less than ideal because ________. a. these securities increase the risk to real return on any financial investment b. these securities are taxed on the amount that the principal value adjusts as compensation for inflation c. these securities have a very short time to maturity, such as 3 or 6 months d. they have immediate access to current data on the inflation rate

b. these securities are taxed on the amount that the principal value adjusts as compensation for inflation

If the expected inflation rate was 4 percent and the actual inflation rate was 6 percent, then borrowers gained in real terms at the expense of lenders. lenders gained in real terms at the expense of borrowers. borrowers and lenders were not affected. the government lost because it collected less in taxes.

borrowers gained in real terms at the expense of lenders.

In general, investors do not like unexpectedly ________ inflation, but they do like unexpectedly ________ inflation. a. high; high b. low; low c. high; low d. low; high

c. high; low

Inflation that is lower than expected ________ the borrower (the firm) and ________ the lender (the bank). a. hurts; hurts b. helps; hurts c. hurts; helps d. helps; helps

c. hurts; helps

The amount of interest paid on a debt security in nominal (dollar) terms as a percentage of the principal (in dollar terms) is called the ________ interest rate. a. real b. realized real c. nominal d. expected real

c. nominal

The ________ inflation discount factor tells, for every dollar's worth of goods and services bought at an earlier date, how much money it would take now to buy the same amount of goods and services after N years of inflation at rate π. a. future b. present c. past d. real

c. past

To measure expected and realized real interest rates, we need data on all of the following EXCEPT the ________ rate. a. nominal interest b. expected inflation c. past inflation d. actual inflation

c. past inflation

The ex-post real interest rate is also called the ________ interest rate. a. compound b. nominal c. realized real d. expected real

c. realized real

If you plot the supply and demand curves for a bond so that the nominal interest rate is on the vertical axis, then the supply curve would ________ and the demand curve would ________. a. slope upward; slope downward b. be horizontal; slope upward c. slope downward; slope upward d. slope upward; be horizontal

c. slope downward; slope upward

The concept of the real interest rate can be applied to ________. a. past return b. expected return c. yield to maturity d. All of the answers are correct.

d. All of the answers are correct.

To avoid the problems caused by the interaction of inflation and taxation, policymakers could ________. a. eliminate taxes on financial investment incomes b. impose taxes on real, rather than nominal interest income c. reduce inflation to zero d. All of the answers are correct.

d. All of the answers are correct.

With an adjustable-rate mortgage, who bears the interest-rate risk? a. Homeowners alone bear the risk. b. Banks alone bear the risk. c. There is no such thing as interest-rate risk. d. Homeowners and banks share the risk.

d. Homeowners and banks share the risk.

Because inflation increases the effective tax rate, economist Martin Feldstein argues, people save and invest ________ when inflation is ________ than they do when inflation is ________. a. less; zero; high b. more; low; zero c. more; high; low d. less; high; low

d. less; high; low

Another name for the expected real interest rate is the securitized real interest rate. realized real interest rate. ex-post real interest rate. ex-ante real interest rate.

ex-ante real interest rate.

Another name for the realized real interest rate is the securitized real interest rate. expected real interest rate. ex-post real interest rate. ex-ante real interest rate.

ex-post real interest rate.

The nominal interest rate adjusted for expected inflation is the expected real interest rate. realized real interest rate. after-tax real interest rate. yield curve.

expected real interest rate.

If expected inflation is 4 percent, the nominal interest rate is 6 percent, and the actual inflation rate turns out to be 2 percent, then the realized real interest rate is ____ than the expected real interest rate and borrowers ____ relative to lenders. less; gain less; lose greater; gain greater; lose

greater; lose

Investors can lock in a real interest rate and thus avoid most of the risk of unexpected inflation by buying corporate bonds. inflation-indexed securities. stock. mortgage-backed securities.

inflation-indexed securities.

If the expected inflation rate was 7 percent and the actual inflation rate was 3 percent, then borrowers gained in real terms at the expense of lenders. lenders gained in real terms at the expense of borrowers. borrowers and lenders were not affected. the government gained because it collected more in taxes.

lenders gained in real terms at the expense of borrowers.

If expected inflation is 3 percent, the nominal interest rate is 5 percent, and the actual inflation rate turns out to be 4 percent, then the realized real interest rate is ____ than the expected real interest rate and borrowers ____ relative to lenders. less; gain less; lose greater; gain greater; lose

less; gain

The ex-post real interest rate is also known as the realized real interest rate. expected real interest rate. after-tax real interest rate. ex-ante real interest rate.

realized real interest rate.

The nominal interest rate adjusted for actual inflation is the expected real interest rate. realized real interest rate. after-tax real interest rate. yield curve.

realized real interest rate.