The real risk-free rate of interest (Rf) is the rate of return on an investment that has no risk and is adjusted for inflation. It is used as a benchmark for other investments and changes depending on economic conditions.
The real risk-free rate is an important concept in finance because it serves as a benchmark for other investments. For example, if the real risk-free rate is 3%, then an investment that yields 5% would be considered to have a risk premium of 2%. The risk premium is the additional return that an investor expects to receive for taking on additional risk.
The real risk-free rate is not a fixed rate, but rather varies depending on economic conditions such as inflation, monetary policy, and the supply and demand for credit. It is typically estimated by subtracting the inflation rate from the nominal risk-free rate, which is the rate of return on a risk-free investment without adjusting for inflation.