Canadian Securities Course (CSC) Level 1 Practice Exam

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How do you determine the real interest rate?

Nominal interest rate divided by the inflation rate
Nominal interest rate plus the inflation rate
Nominal interest rate multiplied by the inflation rate
Nominal interest rate minus the inflation rate

The correct answer is: Nominal interest rate minus the inflation rate

The real interest rate is determined by subtracting the inflation rate from the nominal interest rate. This calculation is necessary because the nominal interest rate reflects the rate at which money invested grows, while the inflation rate represents the rate at which the purchasing power of that money declines. By subtracting the inflation rate from the nominal interest rate, you arrive at the real interest rate, which indicates the true return on an investment after accounting for inflation. This calculation is essential for investors to accurately assess the profitability and purchasing power of their investments.