2. Let's see just how much high expected ination can hurt incentives to save for the long run. Let's assume the government takes about one- third of every extra dollar of nominal interest you earn (a reasonable approximation for recent college graduates in the United States). You must pay taxes on nominal interest-just like under current US. law-but if you're rational, you'll care mostly about your real, after-tax interest rate when deciding how much to save. To make the economic lesson clear, note that in every case, the real rate (before taxes) is an identical 3%. In each case, calculate the nominal after-tax rate of return and the real after-tax rate of return. Notice that as ination rises, your aftertax rate of return plummets. Nominal Real After-Tax Nominal Ination 7r After-Tax Return Interest Rate 1' (Ear = 7:) Return 2/3 x i (2/3 x i) 7r 1 5 % 1 2% 10% - 2% 6% 3% 12% 9% 90% 87% 900% 897%