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Consider a family who borrows $250,000 to purchase a new home at a fixed interest rate of 8.5%. If inflation increases from 4% to 5.5%, how will this impact the real interest rate the family will be paying?

Answer :

The home loan must be repaid at a real interest rate of 3%; (8.5%-5.5%=3%).

Real interest rate

A real interest rate is adjusted to remove the effects of inflation and gives the real rate of a bond or loan. A nominal interest rate refers to the interest rate before taking inflation into account.

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