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The risk-free rate is 2.8%, and expected inflation is 0.4 %. If inflation expectations change such...

The risk-free rate is 2.8%, and expected inflation is 0.4 %. If inflation expectations change such that future expected inflation rises to 2.7%, what will the new risk-free rate be?

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Answer #1

First we calculate the real rate first

Real rate = risk free rate - inflation

real rate = 2.8% -0.4% = 2.4%

New risk free rate = real rate + future inflation

New risk free rate = 2.4% + 2.7% = 5.1%

New risk free rate = 5.1%

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