Question
Negative inflation rates benefit lenders because
a. the real interest rate is negative.
b. the real interest rate is positive.
c. the nominal interest rate is positive.
d. the nominal interest rate is negative.
a. the real interest rate is negative.
b. the real interest rate is positive.
c. the nominal interest rate is positive.
d. the nominal interest rate is negative.
Ask by Dawson Schofield. in the United States
Mar 21,2025
Upstudy AI Solution
Tutor-Verified Answer
Answer
When inflation is negative, the real interest rate becomes positive, benefiting lenders. So, the correct answer is b. the real interest rate is positive.
Solution
The real interest rate is given by
where
This means that even if the nominal interest rate is low, the real interest rate will be higher due to the negative inflation rate, which benefits lenders.
Therefore, the correct answer is:
b. the real interest rate is positive.
Answered by UpStudy AI and reviewed by a Professional Tutor
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Simplify this solution Mind Expander
When inflation rates turn negative, which we call deflation, the value of money actually increases over time. This scenario leads to lenders benefitting because the real interest rate—calculated by subtracting inflation from the nominal interest rate—becomes positive. Essentially, lenders receive more value back in the form of repaid loans than what they originally lent, making their profits swell.
However, it’s crucial to remember that negative inflation can also discourage spending. Consumers might hoard cash in anticipation of lower prices in the future, leading to reduced economic activity. This potential slowdown in growth can create long-term challenges for all parts of an economy, including lenders. Keeping an eye on these dynamics is essential!
