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Due to a recession, expected inflation this year is only 3.75%. However, the inflation rate in Year 2 and thereafter is expected to be constant at some level above 3.75%. Assume that the

expectations theory holds and the real risk-free rate (r*) is 3.5%. If the yield on 3-year Treasury bonds equals the 1-year yield plus 1.5%, what inflation rate is expected after Year 1? Round your

answer to two decimal places.

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