IAI Actuarial Core Principles · Actuarial Mathematics for Modelling · Allowing for inflation
An Indian investor earns a money rate of interest of 9% per annum effective, while inflation is 5% per annum. What is the real rate of interest per annum, to two decimal places?
The real rate is 3.81% per annum. It is found by dividing one plus the money rate by one plus the inflation rate, 1.09 divided by 1.05, and subtracting one. Simply subtracting 5% from 9% gives 4%, which ignores compounding and is incorrect.
- A3.81%Correct
- B4.00%
- C4.20%
- D14.45%
- 3.60%
Explanation
The real rate satisfies 1+i = (1+i_money)/(1+e). So 1.09/1.05 = 1.038095, giving a real rate of 3.81%. The 4.00% option wrongly subtracts the rates (9% - 5%), ignoring compounding.
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