Interest Rates
Interest rates are simply the hire charge of money. The rate of interest must be high enough
to compensate the lender for;
Period without the use of their money
The fall in the value of their money due to inflation
The risk that the borrowers won’t repay.
How does the rate of interest affect the demand for loans?
It is attractive to borrow if: BENEFITS OF BORROWING>COSTS OF BORROWING
But investment isn’t always sensitive to interest rates. WHY?
When forecasting firms use a wide range of projected rates
Large firms have LR investment programmes
Confidence is important.
To complicate matters there is no single rate of interest. It depends on such factors as:
The size of the loan
The duration of the loan
The risk of the borrower
The security offered to cover any default e.g.?
The impact of interest rates on demand:
1. Mortgage repayments have a huge effect on how much disposable income
households have to spend. WHY?
2. Credit sales are largely affected by the rate of interest. This therefore has a big effect
on demand for consumer durables.