acknowledge that their inflation forecasts are hardly certain even for the next year, not to mention the next 20. When you look at an as- set from the perspective of its future purchasing power, you can see that an asset that is riskless in nominal terms can be very risky in real terms.5     CONCEPT C H E C K ☞ QUESTION 3 Suppose the rate of inflation turns out to be 13% per year. What will be the real annualized 20- year HPR on the nominally risk-free bond?     SUMMARY 1. The economys equilibrium level of real interest rates depends on the willingness of households to save, as reflected in the supply curve of funds, and on the expected prof- itability of business investment in plant, equipment, and inventories, as reflected in the demand curve for funds. It depends also on government fiscal and monetary policy. 2. The nominal rate of interest is the equilibrium real rate plus the expected rate of infla- tion. In general, we can directly observe only nominal interest rates; from them, we must infer expected real rates, using inflation forecasts. 3. The equilibrium expected rate of return on any security is the sum of the equilibrium real rate of interest, the expected rate of inflation, and a security-specific risk premium. 4. Investors face a trade-off between risk and expected return. Historical data confirm our intuition that assets with low degrees of risk provide lower returns on average than do those of higher risk. 5. Assets with guaranteed nominal interest rates are risky in real terms because the future inflation rate is uncertain.     KEY TERMS nominal interest rate real interest rate risk-free rate risk premium excess return risk aversion       WEBSITES Returns on various equity indexes can be located on the following sites.   http://www.bloomberg.com/markets/wei.html http://app.marketwatch.com/intl/default.asp http://www.quote.com/quotecom/markets/snapshot.asp   Current rates on U.S. and international government bonds can be located on this site:   http://www.bloomberg.com/markets/rates.html