A deposit of $12,000 earns 4% interest compounded annually. Prices rise by 2.5% each year. There are

Question

A deposit of $12,000 earns 4% interest compounded annually. Prices rise by 2.5% each year. There are no fees, withdrawals or further deposits. - Find the account balance after five years, to the nearest cent. - Express this balance in purchasing power at the date of the deposit, to the nearest cent. - Find the percentage change in purchasing power over the five years. Explain why subtracting the annual rates does not give the exact annual real return.

Accepted Answer

(a) $\$14\,599.83$; (b) $\$12\,904.13$ in initial-date dollars; (c) $7.53\%$ increase; annual real return $1.4634\ldots\%$.

Real Value of an Investment

Real Value of an Investment

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