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Suppose 1-year T-bills currently yield 7.00% and the future inflation rate is expected to be constant at 2.00% per year. What is the real risk-free rate of return, r*? The cross-product term should be considered , i.e., if averaging is required, use the geometric average. (Round your final answer to 2 decimal places.)

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Answer:

The formula to find the real interest is

(1+Nominal interest)= (1+inflation)*(1+real interest)

(1+0.07)=(1+0.02)*(1+Real interest)

1.07/1.02=1+real interest

=1.049-1= real interest

Real  risk free rate = 0.049 = 4.90%

Explanation:

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