George Canyon, CFA, an international trader and analyst with Canyon Trading, wants to use the international Fisher relation to determine his trading strategies. In analyzing expected inflation rates, he wants to correlate the expected rates to nominal interest rates. In doing so, he discovers that the international Fisher relation could approximate nominal interest rates by: A) multiplying real interest rates by expected inflation rates. B) adding real interest rates to expected inflation rates. C) subtracting real interest rates from expected inflation rates. D) dividing real interest rates by expected inflation rates.

b

B

(1+rfr_real)*(1+inflation)-1 = approx = rfr_real + inflation -> B

B) The question asks for the approximation and the approximation is B) (the exact formula would have been A))

olivier actually i disagree… wanted to pick A but in there you have to multiply the real interest rates with the inflation index not the inflation % am I wrong?

“approximate” = B. Seems pretty straight forward to me.

florinpop Wrote: ------------------------------------------------------- > olivier actually i disagree… wanted to pick A > but in there you have to multiply the real > interest rates with the inflation index not the > inflation % > am I wrong? Real interest rate = 3% Inflation = 2% Nominal interest rate: Exact formula = 1.03 X 1.02 = 1.0506 => 5.06% Approximate formula = 3 + 2 = 5 => 5% The key word in this question is “approximate”

B please

A is definitely wrong 2%*3% = 0.06%

that is what I thought that you should work with multiplying indexes not rates itself. maybe I have a language problem with this q although I shouldn’t

you would multiply the rates if you wanted the exact nominal rate… it clearly says what is the approximate nominal rate…so you just add up real and inflation rates… B it is…

you would not multiply the rates but rather indexes (1+rfr)*(1+inf) - 1

Approximate is key as the answer is B.

Agree with B. Fisher relation is something like higher country’s interest rate over lower country’s interest rate equals the higher expected inflation rate over the lower inflation rate. The approximation is r(f) - r(d) = i(f exp) - i (d exp).