I need help with understanding the relationship between nominal (R) and real (r) interest rates and their effect on real consumption. Because 1+R = 1 +r + inflation + r*inflation, don't they both have an effect on real consumption? Or is it just the nominal interest rate that does?

Question

I need help with understanding the relationship between nominal (R) and real  (r) interest rates and their effect on real consumption. Because 1+R = 1 +r + inflation + r*inflation, don't they both have an effect on real consumption? Or is it just the nominal interest rate that does?

anonymous · Answer

The difference between nominal and real interest rates is that nominal interest rates are that does not consider inflation and real interest rates consider inflation For example the interest rate by banks is increased by 5% whereas the inflation is increased by 8% so the real interest rate has decreased by 3%  or the interest rate is increased by 5% and inflation is increased by 1% so the real interst rate rises by 4%


Hope this helps :)