Suppose That a Bank Wishes to Make a 5% Rate

question 140

Multiple Choice

Suppose that a bank wishes to make a 5% rate of return on a one-year loan but expects inflation over the course of the loan to be roughly 3%. Which statement is TRUE?

• A) As long as the bank charges a nominal interest rate of at least 5%, it will earn its expected return.
• B) If the bank charges an interest rate of 8% or higher, it will earn the expected return.
• C) If the bank charges 8% and the inflation rate is less than 3%, then the bank will have earned a higher rate of return than expected.
• D) If the bank charges 8% and the inflation rate is more than 3%, then the bank will have earned a higher rate of return than expected.

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Definitions:

Variable Costing

An accounting method that only assigns variable costs to inventory, considering fixed costs as period expenses.

Absorption Costing

An accounting method that includes all manufacturing costs - direct materials, direct labor, and both variable and fixed overhead - as part of the cost of a product.

Variable Production Costs

Costs that change in direct proportion to changes in the level of production, such as raw materials and hourly labor.

Fixed Production Costs

Expenses that do not change with the level of production or sales over a short period, such as rent, salaries, and insurance, ensuring stability in production costs despite output variations.