Interest Rate
Interest is the cost of money
Interest is the cost of money and is measured by the interest rate where
interest rate = cost of having money available for use
The interest rate is a percentage that is periodically added to an amount of money over a specified length of time. If money is borrowed the interest rate is the percentage of the borrowed amount that is paid to the borrower as a compensation for the use of the borrowed property.
Interest reflects that
- money available today has a greater value that money received in the future
The future value of a present amount of value can be expressed as
F = P (1 + i)n (1)
where
F = future value
P = present value
i = interest rate per period
n = number of interest periods
Example - Accumulated Value
The accumulated value of an amount of present value 1 today with interest rate 10% in a 10 years period can be expressed as
| Year | Accumulated Value |
|---|---|
| 0 | 1 |
| 1 | 1.1 |
| 2 | 1.21 |
| 3 | 1.33 |
| 4 | 1.46 |
| 5 | 1.61 |
| 6 | 1.77 |
| 7 | 1.94 |
| 8 | 2.14 |
| 9 | 2.36 |
| 10 | 2.59 |
An amount of 500 will accumulate with the factor 2.14 in 8 years - or
F = 2.14 (500)
= 1070
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