8. Inflation-induced tax distortions - USE 2 DECIMAL PLACES IN ANSWERS Edison receives a portion of his income from his holdings of interest-bearing government bonds. The bonds offer a real interest rate of 4.5% per year. The nominal interest rate on the bonds adjusts automatically to account for the inflation rate. The government taxes nominal interest income at a rate of 10%. The following table shows two scenarios: a low-inflation scenario and a high- inflation scenario. Given the real interest rate of 4.5% per year, find the nominal interest rate on Edison's bonds, the after-tax nominal interest rate, and the after-tax real interest rate under each inflation scenario. Inflation Rate Real Interest Rate Nominal Interest Rate After-Tax Nominal Interest Rate After-Tax Real Interest Rate (Percent) (Percent) (Percent) (Percent) (Percent) 2.0 4.5 8.5 4.5 Compared with lower inflation rates, a higher inflation rate will nominal interest income. This tends to the after-tax real interest rate when the government taxes saving, thereby the quantity of investment in the economy and the economy's long-run growth rate.
8. Inflation-induced tax distortions - USE 2 DECIMAL PLACES IN ANSWERS Edison receives a portion of his income from his holdings of interest-bearing government bonds. The bonds offer a real interest rate of 4.5% per year. The nominal interest rate on the bonds adjusts automatically to account for the inflation rate. The government taxes nominal interest income at a rate of 10%. The following table shows two scenarios: a low-inflation scenario and a high- inflation scenario. Given the real interest rate of 4.5% per year, find the nominal interest rate on Edison's bonds, the after-tax nominal interest rate, and the after-tax real interest rate under each inflation scenario. Inflation Rate Real Interest Rate Nominal Interest Rate After-Tax Nominal Interest Rate After-Tax Real Interest Rate (Percent) (Percent) (Percent) (Percent) (Percent) 2.0 4.5 8.5 4.5 Compared with lower inflation rates, a higher inflation rate will nominal interest income. This tends to the after-tax real interest rate when the government taxes saving, thereby the quantity of investment in the economy and the economy's long-run growth rate.
Chapter1: Making Economics Decisions
Section: Chapter Questions
Problem 1QTC
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Question
Edison receives a portion of his income from his holdings of interest-bearing government bonds. The bonds offer a real interest rate of 4.5% per year. The nominal interest rate on the bonds adjusts automatically to account for the inflation rate.
The government taxes nominal interest income at a rate of 10%. The following table shows two scenarios: a low-inflation scenario and a high-inflation scenario.
NOTE:
options for drop down questions are as follows
Compared with lower inflation rates, a higher inflation rate will ______ (increase OR decrease) the after-tax real interest rate when the government taxes nominal interest income. This tends to _______ (encourage OR discourage) saving, thereby _______ (increasing OR decreasing) the quantity of investment in the economy and _______ (increasing OR decreasing) the economy's long-run growth rate.
Transcribed Image Text:8. Inflation-induced tax distortions - USE 2 DECIMAL PLACES IN ANSWERS
Edison receives a portion of his income from his holdings of interest-bearing government bonds. The bonds offer a real interest rate of 4.5% per year.
The nominal interest rate on the bonds adjusts automatically to account for the inflation rate.
The government taxes nominal interest income at a rate of 10%. The following table shows two scenarios: a low-inflation scenario and a high-
inflation scenario.
Given the real interest rate of 4.5% per year, find the nominal interest rate on Edison's bonds, the after-tax nominal interest rate, and the after-tax
real interest rate under each inflation scenario.
Inflation Rate
Real Interest Rate
Nominal Interest Rate
After-Tax Nominal Interest Rate
After-Tax Real Interest Rate
(Percent)
(Percent)
(Percent)
(Percent)
(Percent)
2.0
4.5
8.5
4.5
Compared with lower inflation rates, a higher inflation rate will
nominal interest income. This tends to
the after-tax real interest rate when the government taxes
▼ saving, thereby
the quantity of investment in the economy and
the economy's long-run growth rate.
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