real interest rate
(economics) the difference between the nominal interest rate and the rate of inflation; the actual premium charged by banks for lendable funds.
the real interest rate can be determined by subtracting the annualized rate of inflation from the prime rate offered by banks to borrowers with the best credit.
during the 1970’s, the usa experienced relatively high inflation (peaking at 17% in january 1980). in some months this exceeded the prime rate, resulting in negative interest rates for short periods (e.g., april-october, 1978; feb-july, 1979).
one problem of deflation (i.e., falling absolute prices) is that it always occurs when the economy is in very severe recession, and there is no way the central bank can reduce the real interest rate to zero, since 0% nominal rates minus negative inflation = positive real interest rates.
during the period 1978 to 1980, there were 14 (out of a total of 36) months during which the real interest rate was negative.
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