Explanation:
The real default-free interest rate (often approximated by real government bond yields) is influenced by:
1. Expected GDP growth rate - Higher expected economic growth typically leads to higher real interest rates because:
2. Expected volatility of GDP growth - Higher economic volatility (risk) typically requires higher real interest rates because:
Correct Answer: C - Both factors contribute positively to real interest rates. Higher growth creates demand for capital, while higher volatility creates risk that must be compensated.
The real default-free interest rate in an economy is most likely positively related to:
A
the expected growth rate of GDP only.
B
the expected volatility of GDP growth only.
C
both the expected growth rate of GDP and the expected volatility of GDP growth.
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