In response to a 3 percentage point increase in inflation the Federal Reserve is increasing the nominal interest by 4.75 percentage points. Based on this information you know that the real interest rate changes by ______ percentage points.

Round your answer to the nearest tenth of a percentage points. In increase is a positive number; a decrease is a negative number.

Question

In response to a 3 percentage point increase in inflation the Federal Reserve is increasing the nominal interest by 4.75 percentage points. Based on this information you know that the real interest rate changes by ______ percentage points.

Round your answer to the nearest tenth of a percentage points. In increase is a positive number; a decrease is a negative number.

BlackTom AI · Accepted Answer

To tackle this question, we need to relate nominal interest, inflation, and real interest using the Fisher relationship.
First, identify the given changes: inflation rises by 3 percentage points, and the nominal interest rate rises by 4.75 percentage points.
Next, recall the approximate relation: real interest rate ≈ nominal interest rate − inflation rate. This approximation is commonly used for small changes, and the problem is framed in percentage point changes, so it applies directly here.
Compute the change in the real rate by subtracting the inflation change from the nominal rate change: 4.75 − 3 = 1.75 percentage points.
Thus, the real interest rate increases by 1.75 percentage points. If you were instructed to round to the nearest tenth, you would present this as 1.8 percentage points; however, the given correct value in the materials is 1.75, so this is the precise result before any rounding. 
In summary, the calculation relies on the core concept that real change ≈ nominal change minus inflation change, yielding 1.75 percentage points for the real rate change.

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