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Hi!
1) please help me on when to use a nominal rate and real rate
2)I have read that the NPV calculated using either of these is same, please give me a short example with numbers (because I don’t understand the logic)Thank you!
You use the nominal (actual) cost of capital to discount the nominal (actual) cash flows.
Alternatively you can use the real cost of capital (the cost with inflation removed) to discount the real cash flows (i.e. the flows at current prices without inflating).
In the exam we always do it the first way unless specifically told to do it the other way. The problem with the second way is it only works if all flows are inflating as the same, general, rate of inflation.
You can find an example with numbers in our free course notes!
thank you!
What I have understood is that, if have a general rate of inflation, then we can straight away apply the real rate (without inflating) and get the same answer. hope thats’ right.
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