rate of 16% with the expectation that the rate of inflation will be 12% during the one-year life of the loan. At the end of the year, Larry makes good on the loan by paying Megan $116. Consider how the loan repayment affects Megan and Larry under the following scenarios. Scenario 1: Suppose all prices and salaries rise by 12% (as expected) over the course of the year. In the following table, find Megan's and Larry's new salaries after the 12% increase, and then calculate the $116 payment as a percentage of their new salaries. (Hint: Remember that Megan's salary is her income from work and that it does not include the loan payment from Larry.) Value of Megan's new The $116 payment as a percentage Value of Larry's new salary The $116 payment as a salary after one year of Megan's new salary after one year percentage of Larry's new salary $336 35% $224 52% Scenario 2: Consider an unanticipated decrease in the rate of inflation. The rise in prices and salaries turns out to be 2% over the course of the year rather than 12%. In the following table, find Megan's and Larry's new salaries after the 2% increase, and then calculate the $116 payment as a percentage of their new salaries. Value of Megan's new The $116 payment as a percentage Value of Larry's new salary The $116 payment as a salary after one year of Megan's new salary after one year percentage of Larry's new salary $306 38% $204 57% An unanticipated decrease in the rate of inflation benefits and harms

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