In a market economy, the nominal interest rate. Nominal and real deposit rate

When people talk about interest rates, they usually mean real interest rates as opposed to nominal ones. However, real rates cannot be directly observed. When concluding a loan agreement or looking through financial bulletins, we receive information primarily about nominal interest rates.
The nominal interest rate is the percentage in monetary terms. For example, if a $1,000 annual loan pays $120 in interest, the nominal interest rate would be 12% per annum. With a $120 return on a loan, will the lender get richer? It depends on how prices have changed during the year. If prices rose by 8%, then the real income of the lender increased by only 4% (12%-8% = 4%). The real interest rate is the increase in real wealth expressed as an increase in the purchasing power of an investor or lender, or the exchange rate at which today's goods and services, real goods, are exchanged for future goods and services. Essentially, the real interest rate is the nominal rate adjusted for price changes.
The above definitions enable us to consider the relationship between nominal and real interest rates and inflation. It can be expressed by the formula
i = r + i, (1)
where i is the nominal interest rate; r is the real interest rate; it is the rate of inflation.
Equation (1) shows that the nominal interest rate can change for two reasons: due to changes in the real interest rate and/or due to changes in inflation rates. Real interest rates change very slowly over time, as changes in nominal interest rates are caused by changes in inflation rates. A 1% increase in the inflation rate causes a 1% increase in the nominal rate.
When the borrower and lender agree on a nominal rate, they do not know what rate inflation will take at the end of the contract. They are based on expected inflation rates. The equation takes the form

1. r + i[*. (2)

Equation (2) is known as the Fisher equation, or the Fisher effect. Its essence is that the nominal interest rate is determined not by the actual rate of inflation, since it is not yet known, but by the expected rate of inflation (rae). The dynamics of the nominal interest rate repeats the movement of the expected inflation rate.
Since it is impossible to accurately determine the future rate of inflation, rates are adjusted according to the actual rate of inflation. Expectations are in line with current experience. If the inflation rate changes in the future, there will be deviations of the actual rates from the expected ones. This is called the unexpected rate of inflation and can be expressed as the difference between the future actual rate and the expected rate of inflation (tc-tse).
If the unforeseen rate of inflation is zero (it = n), then neither the lender nor the borrower has anything to lose or gain from inflation. If unforeseen inflation occurs (i -i(gt; 0), then borrowers benefit at the expense of creditors, as they repay the loan with depreciated money. In the case of unforeseen deflation, the situation will be reversed: the lender will benefit at the expense of the borrower.
1 The above formula is an approximation that gives satisfactory results only at low inflation rates. The higher the inflation rate, the larger the error in equation (1). The exact formula for determining the real interest rate is more complicated: i = r + i + m or r = (i - i)/ 1 + i.
Three important points can be distinguished from the foregoing: 1) nominal interest rates include a markup or premium on expected inflation; 2) due to unforeseen inflation, this allowance may turn out to be insufficient; 3) as a result, there will be an effect of redistribution of income between creditors and borrowers.
Another way to look at this problem is from the point of view of real interest rates. In this regard, two new concepts arise:

• expected real interest rate - the real interest rate expected by the borrower and lender when granting a loan. It is determined by the expected level of inflation (r- i - hc *);
• actual real interest rate. It is determined by the actual level of inflation (r = r - l).

Since the lender expects to earn a return, the nominal rate of interest on new loans and borrowings should be at a level that provides good prospects for real income, in line with current estimates of the future rate of inflation. Deviations of the actual real rate from the expected one will depend on the accuracy of the forecast of future inflation rates.
At the same time, along with the accuracy of forecasts, there is a difficulty in measuring the real rate. It consists in measuring inflation, choosing a price index. In this matter, one must proceed from how the funds received will ultimately be used. If income from loans is intended to finance future consumption, then a suitable measure of income would be the consumer price index. If a firm needs to estimate the real cost of borrowing to finance working capital, then a wholesale price index will be adequate.
When the rate of inflation exceeds the rate of growth of the nominal rate, the real interest rate will be negative (less than zero). While nominal rates typically rise when inflation rises, periods of real interest rates falling below zero have been known.
Negative real rates are holding back lending. At the same time, they encourage borrowing because the borrower wins what the lender loses.
Under what conditions and why does a negative real rate exist in financial markets? Negative real rates for some time can be established:

• during periods of runaway inflation or hyperinflation, lenders lend even if real rates are negative, because earning some nominal income is better than holding cash;
• during an economic downturn, when demand for credit falls and nominal interest rates fall;

1 And Fischer noted: “The real interest rate in the USA from March to April 1917 fell to -70%. In Germany, during the peak of inflation in August - September 1923, it fell to an absurd level of -99.9%. This meant that creditors lost not only interest, but almost all capital; suddenly, unexpectedly, prices were deflated, and the real interest rate jumped up to 100% ”(quoted by Cho: Sonki J. Financial management in commercial banks. M., 1994. P. 255).

• when inflation is high, to provide income to creditors. Borrowers will not be able to borrow at such high rates, especially if they assume that inflation will soon slow down. At the same time, rates on long-term loans may be below the level of inflation, since short-term rates will be expected to fall in financial markets;
• if inflation is not sustainable. Under the gold standard, actual inflation may be higher than expected, and nominal interest rates may not be high enough: "inflation takes the merchants by surprise."

Positive real interest rates mean an increase in the income of creditors. However, if interest rates rise or fall in line with inflation, then the lender incurs a potential loss in capital gains. This happens in the following cases:
a) inflation reduces the real cost of a loan (credit received). A homeowner with a mortgage loan will find that his debt decreases in real terms. If the market value of his home rises while the face value of his mortgage stays the same, the homeowner benefits from the diminishing real value of his debt. The lender will suffer capital losses;
b) the market value of securities, such as government bonds or corporate bonds, falls if the market nominal rate of interest rises, and vice versa, rises if the interest rate falls.
For example, if the government issues long-term 25-year bonds with a coupon rate of, say, 10% and the market nominal rate of interest is also 10%, then the market value of the bond will be equal to its face value, or $100 for every $100 of face value. . Now, if the nominal rate rises to 14%, then the market value of the bond falls to $71.43 ($100 x 10%: 14% = $71.43 per $100 face value). The bondholder will incur a capital loss of $28.57 for every $100 if he decides to sell the bonds on the stock exchange. The loss of capital is caused by an increase in the interest rate.
You can look at this problem differently. For example, a $100 holder of a loan obligation will receive $100 at the end of the loan. But with the $100 he previously spent buying the bond, he can buy a bond that pays 14%, not the 10% he's getting now. Thus, an increase in the interest rate leads to the loss by the lender of part of the value of the capital provided on loan.
Continuing with the example, consider an interest rate drop to 8%, then the resale value of the bond rises to $125. The bondholder can sell the asset for a capital increase of $25 per hundred.
The lender faces constant changes in market interest rates due to changes in expected inflation rates. At the same time, if the creditor sells securities, he either incurs losses or increases capital. If he continues to hold these securities, then his real income changes in accordance with the expected inflation rate.

More on the topic Nominal and real interest rates:

1. The difference between real and nominal interest rates
2. 13.2. The economic basis for the formation of the level of loan interest
3. 13.2. The economic basis for the formation of the level of loan interest
4. 11.3. The loan interest rate, its types, relationship and differences from the loan interest and the rate of return\r\n
5. Investments and reinvestments. Formation of the market interest rate
6. Loan, deposit, discount interest, factors determining them
7. 8.6. THE ROLE OF THE INTEREST RATE IN ENSURING THE EFFICIENCY OF INVESTMENTS

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The interest rate is one of the most important macroeconomic indicators. There are many different interest rates in the financial market. First of all, interest rates on deposits and loans differ. For example, at the end of June 2012, the rates on ruble deposits of individuals in Sberbank of Russia were in the range of 0.01-8.75% per annum, and the rates on loans for the purchase of real estate in the same bank were in the range of 11-16.5% per annum. Sberbank's interest rates differ from those of other commercial banks and rates on the interbank lending market. Interest in the banking system as a whole may differ from interest (or similar values, such as annual returns on shares) in other segments of the financial market, such as private or government securities markets. In addition, different degrees of risk of investments in different segments of the financial market can affect the size of rates (higher risk corresponds to a higher percentage). Nevertheless, the change in interest rates in various segments of the financial market is explained by similar mechanisms, and in most cases the entire range of interest rates in the country moves in the same direction (if short-term fluctuations are not taken into account). Therefore, in the future, under the interest rate we will understand a certain single, abstract, "average" interest rate.

The importance of the interest rate lies primarily in the fact that it characterizes the cost of using borrowed funds in the financial market. Rising interest rates mean that borrowing in the financial market will become more expensive and less accessible to potential borrowers - for example, firms looking to expand their business and upgrade their equipment, or apartment buyers looking to get a mortgage loan. If rising interest rates force them to abandon investment, this could have far-reaching undesirable consequences for the entire economic system of the country. What can cause interest rates to rise? One of the reasons is the increase in inflation (especially in modern Russia). To describe the relationship between the interest rate and inflation, it is necessary to introduce the concepts of real and nominal interest rates.

The usual interest rate that you can see when you go to a bank or other financial institution is called nominal (g). The nominal rates are the rates on deposits and loans in Sberbank in June 2012 given above. It is interesting that in 1992 in the same bank the interest rate on deposits (in rubles) could reach 190% per annum. Thus, each ruble placed on this deposit at the beginning of 1992 turned into 2 rubles in a year. 90 kopecks (1 ruble of the initial deposit plus 190%). But did the owner of the deposit become richer as a result? Suppose, at the beginning of 1992, for 1 rub. You could buy one loaf of bread. According to official statistics, in 1992 the inflation rate in Russia was approximately 2540%. If bread rose in price at such a rate, then its price increased 26.4 times over the year (see the mathematical commentary "Growth Rates and Growth") and by the end of the year amounted to 26 rubles. 40 kop. Thus, at the beginning of the year, 1 ruble deposited could buy one loaf of bread. At the end of the year, received in the bank 2 rubles. 90 kop. it was possible to buy only approximately one-tenth of this loaf (to be exact, 2 rubles 90 kopecks: 26 rubles 40 koi "0.11 loaves of bread). Due to the fact that the growth in the size of the deposit in the bank lagged behind the rise in prices, the depositor lost nine-tenths of a loaf of bread, or, in other words, nine-tenths of the purchasing power of his money (to be exact, he lost 89% of their purchasing power, i.e. from one whole loaf at the beginning of the year there were only 0.11 loaves at the end of the year and) The value of -89%, when calculating which the nominal interest rate was adjusted for inflation, is called real interest rate. It is usually denoted by a small letter r . With data on the nominal interest rate i and the inflation rate π, the real interest rate can always be calculated using the Fisher formula:

(here all three values ​​are expressed as a percentage). An example of using Fisher's formula for our 1992 data:

If the inflation rate in a country is low,

a simpler, approximate formula can be used that relates nominal, real interest rates and the inflation rate: For example, if the annual inflation rate π was 1% and the nominal rate i was 3%, the real interest rate was about

Let's return to the previously asked question, slightly modifying it. Why do nominal interest rates change? From the formula we find the nominal rate: . We get the effect called the Fisher effect. In accordance with this effect, two main components of the nominal interest rate are distinguished - real interest and inflation rate and, accordingly, two reasons for its change. Typically, a financial institution (say, a bank), when setting the nominal interest rate for the next year, proceeds from some target value of the real rate and its expectations regarding the future inflation rate. If the target value of the real rate is +2% per annum and the bank's experts expect a 1.5% increase in prices for the next year, then the nominal rate will be set at 3.5% per annum. Please note that in this example, the formation of the nominal interest rate was influenced not by the actual, but by the expected inflation, which can be formalized as , where is the expected inflation rate (e - from English expected).

Thus, the nominal rate is determined by two components - the real rate and the expected rate of inflation. Note that fluctuations in the real interest rate are usually less significant than fluctuations in the expected rate of inflation. In this case, according to the Fisher effect the dynamics of the nominal interest rate is largely determined by the dynamics of the expected inflation rate(Figure 2.13 is offered as an illustration).

In turn, expected inflation is largely determined by the past history of this economic indicator: if inflation was insignificant in the past, it is expected that it will be insignificant in the future. If the country has previously experienced strong inflation, then this gives rise to pessimistic expectations for the future. If in Russia, until recently, the inflation rate, as a rule, was double-digit, this also affected the average size of interest rates in our country, and the increase in inflation led to an increase in nominal interest rates, and the weakening of inflation somewhat reduced them.

Rice. 2.13.

The interest rate is for 3-month Treasury bills, inflation is calculated as the growth rate of the CPI for All Urban Consumers in a given month compared to the same month last year. Sources: according to the US Federal Reserve (federalreserve.gov) and the US Bureau of Labor Statistics (bls.gov).

When people talk about interest rates, they usually mean real interest rates as opposed to nominal ones. However, real rates cannot be directly observed. When concluding a loan agreement or looking through financial bulletins, we receive information primarily about nominal interest rates.

The nominal interest rate is the percentage in monetary terms.

For example, if a $1,000 annual loan pays $120 in interest, the nominal interest rate would be 12% per annum.

With a $120 return on a loan, will the lender get richer? It depends on how prices have changed during the year. If prices rose by 8%, then the real income of the lender increased by only 4% (12%-8%=4%).

The real interest rate is the increase in real wealth expressed as an increase in the purchasing power of an investor or lender, or the exchange rate at which today's goods and services, real goods, are exchanged for future goods and services. Essentially, the real interest rate is the nominal rate adjusted for price changes.

The above definitions enable us to consider the relationship between nominal and real interest rates and inflation.

It can be expressed by the formula

i = r + p,(1.1)

where i- nominal interest rate;

r- real interest rate;

R- inflation rate.

This equation shows that the nominal interest rate can change for two reasons: due to changes in the real interest rate and (or) due to changes in inflation rates.

Real interest rates change very slowly over time, as changes in nominal interest rates are caused by changes in inflation rates.

A 1% increase in the inflation rate causes a 1% increase in the nominal rate.

When the borrower and lender agree on a nominal rate, they do not know what rate inflation will take at the end of the contract. They are based on expected inflation rates. The equation takes the form:

i = r + p e . (1.2)

This equation is known as the Fisher equation, or the Fisher effect. Its essence is that the nominal interest rate is determined not by the actual rate of inflation, since it is not yet known, but by the expected rate of inflation ( R e).

The dynamics of the nominal interest rate repeats the movement of the expected inflation rate.

Since it is impossible to accurately determine the future rate of inflation, rates are adjusted according to the actual rate of inflation. Expectations are in line with current experience.

If the inflation rate changes in the future, there will be deviations of the actual rates from the expected ones.

This is referred to as the unexpected rate of inflation and can be expressed as the difference between the future actual rate and the expected rate of inflation ( r - r e).

If the unanticipated inflation rate is zero ( p = p"), then neither the lender nor the borrower has anything to lose or gain from inflation.

If unexpected inflation takes place ( r - r" > 0 ), then borrowers benefit at the expense of lenders, as they repay the loan with depreciated money.

In the case of unforeseen deflation, the situation will be reversed: the lender will benefit at the expense of the borrower.

Three important points can be distinguished from the foregoing: 1) nominal interest rates include a markup or premium on expected inflation; 2) due to unforeseen inflation, this allowance may turn out to be insufficient; 3) as a result, there will be an effect of redistribution of income between creditors and borrowers.

Another way to look at this problem is from the point of view of real interest rates. In this regard, two new concepts arise:

• - expected real interest rate - the real interest rate expected by the borrower and the lender when granting a loan. It is determined by the expected rate of inflation ( r = i - p e);
• is the actual real interest rate. It is determined by the actual rate of inflation ( r = i - p).

Since the lender expects to earn a return, the nominal rate of interest on new loans and borrowings should be at a level that provides good prospects for real income, in line with current estimates of the future rate of inflation.

Deviations of the actual real rate from the expected one will depend on the accuracy of the forecast of future inflation rates.

At the same time, along with the accuracy of forecasts, there is a difficulty in measuring the real rate. It consists in measuring inflation, choosing a price index. In this matter, one must proceed from how the funds received will ultimately be used. If income from loans is intended to finance future consumption, then a suitable measure of income would be the consumer price index. If a firm needs to estimate the real cost of borrowing to finance working capital, then a wholesale price index will be adequate.

When the rate of inflation exceeds the rate of growth of the nominal rate, the real interest rate will be negative (less than zero). While nominal rates typically rise when inflation rises, periods of real interest rates falling below zero have been known.

Negative real rates are holding back lending. At the same time, they encourage borrowing because the borrower wins what the lender loses.

Under what conditions and why does a negative real rate exist in financial markets? Negative real rates for some time can be established:

• - in a period of runaway inflation or hyperinflation, lenders lend even if real rates are negative, since getting some nominal income is better than holding cash;
• - during an economic downturn, when demand for loans falls and nominal interest rates fall;
• - with high inflation, to provide income to creditors. Borrowers will not be able to borrow at such high rates, especially if they assume inflation is slowing down soon. At the same time, rates on long-term loans may be below the level of inflation, since short-term rates will be expected to fall in financial markets;
• - if inflation is not sustainable. Under the gold standard, actual inflation may be higher than expected, and nominal interest rates may not be high enough: "inflation takes the merchants by surprise."

Positive real interest rates mean an increase in the income of creditors. However, if interest rates rise or fall in line with inflation, then the lender incurs a potential loss in capital gains. This happens in the following cases:

• 1) inflation reduces the real cost of a loan (loan received). A homeowner with a mortgage loan will find that his debt decreases in real terms. If the market value of his house rises while the face value of his mortgage stays the same, the homeowner benefits from the diminishing real value of his debt. The lender will suffer capital losses;
• 2) the market value of securities, such as government bonds, falls if the market nominal rate of interest rises, and vice versa, rises if the interest rate falls.

The loan repayment scheme is considered one of the decisive factors at the stage of borrowing funds. Choosing the optimal payment schedule, the borrower gets the opportunity to fulfill his obligations to the bank in a timely manner in full. However, do not forget about the accrual of interest on the loan. For loans, effective, nominal and real interest rates are usually considered. The loan repayment scheme is considered one of the decisive factors at the stage of borrowing money. Choosing the optimal payment schedule, the borrower gets the opportunity to fulfill his obligations to the bank in a timely manner in full. However, do not forget about the accrual of interest on the loan. For loans, effective, nominal and real interest rates are usually considered.

Nominal interest rate

The lending rate is a percentage of the loaned amount of money that the borrower pays to the lender, taking into account the terms of the contract, so many factors affect the calculation. The nominal interest rate is the simplest of the indicators that is used to calculate loan payments that accrue on a regular basis (usually annually).

Features of the nominal interest rate:

1. Depends on market conditions.
2. Calculated without taking into account inflation.
3. Reflects the current price of the loan.
4. Allows you to calculate regular payments.

Thus, the nominal interest rate on a loan is an indicator without adjusting for inflation. The use of such a calculation mechanism means that various currency shocks are not able to affect the selected rate.

In other words, the lending stage does not take into account the fact that the value of money changes over time due to inflation. Since it is impossible in the long term to predict future exchange rates and other factors that significantly affect the credit market, for the participants in the transaction, a fixed rate of return is safer and more profitable than other schemes for calculating interest payments.

The concept of real interest rate is used to account for inflation. It is useful in the case of issuing loans aimed at subsequent growth in interest deductions.

The real interest rate measures the change in the value of the initial cost of the loan, taking into account interest, additionally taking into account inflation, but ignoring any additional payments agreed upon by the contract.

Effective interest rate

As part of the calculation of the effective lending rate, the amount of capitalization is taken into account. This indicator allows you to determine the total cost of the loan.

Borrowers can use the obtained data to select the most advantageous offers from commercial banks and other organizations operating in the modern credit market. To determine the effective interest rate, you should study the contract provided. The list of additional services provided by the credit institution is of key importance.

Distinctive features of the effective lending rate:

1. It has informational value when choosing a loan product.
2. It consists of the nominal rate and the amount of capitalization.
3. Allows you to determine the total cost of a particular loan.
4. Used by the Central Bank to calculate average market indicators The full cost of the loan is an information indicator that allows you to determine the actual amount of interest and other payments paid by the client for the use of borrowed funds..
5. Depends on the specific terms of the agreement signed by the parties.

The effective rate is often higher than the amount of annual interest accruals on the loan due to the effect of Compounding (from the English compaund - connection) is the process of increasing the initial amount of money as a result of interest."> compounding. When it comes to borrowing money, the lender's customer will pay more in the long run as the initial loan amount increases after interest is charged. Calculation of the effective rate will help clarify the terms of lending. The borrower will have the opportunity to select the best offers for the transaction, taking into account minor factors that affect the TIC.

How is the effective rate different from the nominal rate?

The main distinguishing feature of the nominal rate is the ease of calculation. This is solely about the amount of remuneration that the borrower is obliged to provide to the lender according to the contract. Any external factors and additional transaction parameters are not taken into account. If it is necessary to calculate the level of payments on a loan taking into account inflation, it is recommended to use the real rate. In turn, adding the amount of capitalization to the nominal indicators, the potential borrower will receive data on the effective rate, which is equal to the full cost of the loan agreement in question.

Both effective and nominal interest rates can be used to determine the interest on a loan during the year. If interest is accrued on an annual basis, then the current and nominal rates will be exactly the same. However, using any other time period for interest calculation changes the payment options. As a result, effective rates can be easily compared, but several nominal rates have to be adjusted until a common percentage range is obtained.

The most important characteristic of the modern economy is the depreciation of investments through inflationary processes. This fact makes it expedient to use not only the nominal, but also the real interest rate when making certain decisions in the market. What is the interest rate? What does it depend on? How ?

The concept of the interest rate

The interest rate should be understood as the most important economic category, reflecting the profitability of any asset in real terms. It is important to note that it is the interest rate that plays a decisive role in the process of making managerial decisions, because any economic entity is very interested in obtaining the maximum level of revenue at minimum cost in the course of its activities. In addition, each entrepreneur, as a rule, reacts to the dynamics of the interest rate in an individual way, because in this case the determining factor is the type of activity and the industry in which, for example, the production of a particular company is concentrated.

Thus, owners of capital are often only willing to work if the interest rate is extremely high, and borrowers are only likely to buy capital if the interest rate is low. The above examples are clear evidence that today it is very difficult to find a balance in the capital market.

Interest rates and inflation

The most important characteristic of a market economy is the presence of inflation, which leads to the classification of interest rates (and, of course, the rate of return) into nominal and real. This allows you to fully evaluate the effectiveness of financial operations. If the inflation rate exceeds the interest rate received by the investor for investments, the result of the corresponding operation will be negative. Of course, in terms of absolute value, his funds will increase significantly, that is, for example, he will have more money in rubles, but the purchasing power that is characteristic of them will fall significantly. This will lead to the opportunity to buy only a certain amount of goods (services) for the new amount, which is less than it would have been possible before the start of this operation.

Distinctive features of nominal and real rates

As it turned out, they differ only in terms of inflation or deflation. Under inflation should be understood as a significant and sharp and under deflation - their significant fall. Thus, the nominal rate is considered to be the rate assigned by the bank, and the purchasing power inherent in income and denoted as interest. In other words, the real interest rate can be defined as the nominal one, which is adjusted for the inflationary process.

Irving Fisher, an American economist, formed a hypothesis explaining how it depends on nominal. The main idea of ​​the Fisher effect (this is how the hypothesis is called) is that the nominal interest rate tends to change in such a way that the real one remains “fixed”: r(n) = r(p) + i. The first indicator of this formula reflects the nominal interest rate, the second - the real interest rate, and the third element is equivalent to the expected rate of inflationary processes, expressed as a percentage.

The real interest rate is...

A striking example of the Fisher effect, discussed in the previous chapter, is the picture when the expected pace of the inflationary process is equal to one percent per annum. Then the nominal interest rate will also rise by one percent. But the real percentage will remain unchanged. This proves that the real interest rate is the same as the nominal interest rate minus the assumed or actual inflation rate. This rate is fully adjusted for inflation.

Calculation of the indicator

The real interest rate can be calculated as the difference between the nominal interest rate and the level of inflation processes. In this way, the real interest rate is the following relationship: r(p) = (1 + r(n)) / (1 + i) - 1, where the calculated indicator corresponds to the real interest rate, the second unknown term determines the nominal interest rate, and the third element characterizes the inflation rate.

Nominal interest rate

In the process of talking about lending rates, as a rule, we are talking about real rates ( the real interest rate is purchasing power of income). But the fact is that they cannot be observed directly. So, when concluding a loan agreement, an economic entity is provided with information on nominal interest rates.

The nominal interest rate should be understood as the practical characteristic of interest in quantitative terms, taking into account current prices. The loan is issued at this rate. It should be noted that it cannot be greater than or equal to zero. The only exception is a loan on a free basis. The nominal interest rate is nothing more than the percentage expressed in monetary terms.

Calculation of the nominal interest rate

Suppose, in accordance with the annual loan of ten thousand units of currency, 1200 units of currency are paid as interest. Then the nominal interest rate is equal to twelve percent per annum. After receiving a loan of 1200 monetary units, will the lender get rich? A competent answer to this question can only be known exactly how prices will change during the annual period. Thus, with an annual inflation rate of 8 percent, the lender's income will increase by only 4 percent.

The nominal interest rate is calculated as follows: r = (1 + percentage of income received by the bank) * (1 + rise in inflation rate) - 1 or R = (1 + r) × (1 + a), where the main indicator is the nominal interest rate, the second is the real interest rate, and the third is the growth rate of the inflation rate in the corresponding country .

conclusions

There is a close relationship between nominal and real interest rates, which, for absolute understanding, it is advisable to present as follows:

1 + nominal interest rate = (1 + real interest rate) * (price level at the end of the considered time period / at the beginning of the considered time period) or 1 + nominal interest rate = (1 + real interest rate) * (1 + inflation rate).

It is important to note that only the real interest rate reflects the real effectiveness and productivity of transactions made by the investor. It says about the increase in the funds of this economic entity. The nominal interest rate can only reflect the amount of cash growth in absolute terms. It does not take into account inflation. Increase in real interest rate indicates an increase in the purchasing power of the currency. And this is equal to the opportunity to increase consumption in future periods. So, this situation can be interpreted as a reward for current savings.