Answer to Question #66320 in Macroeconomics for Rachel

Question

If the nominal interest rate is 8%, the expected inflation rate is 3%, and the tax rate is 25%, what is the after tax real interest rate when taxes are paid on nominal interest income? The after tax real interest rate when taxes are paid on real interest income?

Answer 1

If the nominal interest rate is 8%, the expected inflation rate is 3%, and the tax rate is 25%, then the after tax real interest rate when taxes are paid on nominal interest income is 8%*(1 - 0.25) - 3% = 3%.
The after tax real interest rate when taxes are paid on real interest income is (8% - 3%)*(1 - 0.25) = 3.75%.