If the tax rate is 40%, compute the before tax real interest rate and the after tax real interest rate in each of the following cases: A) The nominal interest rate is 10% and the inflation rate is 5%.

To compute the before tax real interest rate, we can use the formula:

Before Tax Real Interest Rate = Nominal Interest Rate – Inflation Rate

Substituting the values from our question:

• Nominal Interest Rate = 10%
• Inflation Rate = 5%

Before Tax Real Interest Rate = 10% – 5% = 5%

Now, let’s calculate the after tax real interest rate. First, we need to determine the after tax nominal interest rate using the following formula:

After Tax Nominal Interest Rate = Nominal Interest Rate × (1 – Tax Rate)

With a tax rate of 40%, we have:

• Tax Rate = 40% = 0.40

After Tax Nominal Interest Rate = 10% × (1 – 0.40) = 10% × 0.60 = 6%

Now, we can find the after tax real interest rate using the same formula as before:

After Tax Real Interest Rate = After Tax Nominal Interest Rate – Inflation Rate

Substituting our values:

• After Tax Nominal Interest Rate = 6%
• Inflation Rate = 5%

After Tax Real Interest Rate = 6% – 5% = 1%

In summary, for the given case:

• Before Tax Real Interest Rate: 5%
• After Tax Real Interest Rate: 1%