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ACCOUNTING AND FINANCIAL ENGINEERING - EXAMPLE 34.17 : In the engineering calculations of interest rate caused by inflation, General Inflation Effect and Fisher Effect may be considered. Let I = inflation rate, R = nominal interest rate, r = real interest rate. According to Fisher Effect, (1 + R) = (1 + r) (1 + I). According to General Inflation Effect, r = R - I. (a) If I = 0.1 for all effects, both the values of R and r in the Fisher Effect are the same as R and r in the General Inflation Effect, find the values of R and r. (b) If R has the same value caused by both General Inflation Effect and Fisher Effect, find the possible values of R, r and I in term of R etc.
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Answer Posted / kangchuentat
ACCOUNTING AND FINANCIAL ENGINEERING - ANSWER 34.17 : (a) For Fisher Effect, 1 + R = 1.1 (1 + r) = 1.1 + 1.1 r, 0.1 = R - 1.1 r (Equation 1). For General Inflation Effect, r = R - 0.1, 0.1 = R - r (Equation 2). Equation 2 - Equation 1 : r = 0, then R = 0.1. (b) (1 + R) = (1 + r) (1 + I) = 1 + I + r + rI, then R = (I + r) + rI (Equation 3). Let R = I + r (Equation 4). Equation 3 - Equation 4 : 0 = Ir, where (I = 0) or (r = 0) or (I = 0 and r = 0). If I = 0, r = R. If r = 0, I = R. If I = 0 and r = 0, R = 0 = 0 R = 1 R. The answer is given by Kang Chuen Tat; PO Box 6263, Dandenong, Victoria VIC 3175, Australia; SMS +61405421706; chuentat@hotmail.com; http://kangchuentat.wordpress.com.
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