Interest rate

An interest rate represents the cost of borrowing or the return on investment, expressed as a percentage of the principal amount. It reflects the relationship between present and future value, illustrating how much more valuable money is today compared to its value at a later date.

Key Components of Interest Rates:

1. Principal Sum: The initial amount of money borrowed or invested.

2. Interest Rate: The percentage charged or earned over a specific period, typically annualized.

3. Compounding Frequency: How often interest is calculated and added to the principal, which can affect the total amount of interest accrued.

4. Time Period: The duration for which the money is borrowed or invested.

Types of Interest Rates:

• Annual Interest Rate: Standardized to represent the cost or return over one year, even if the actual loan or investment duration differs.

• Monthly or Daily Rates: Adjusted rates based on shorter periods, often annualized for consistency.

Economic Perspective:

Interest rates reflect a borrower’s preference for immediate access to funds versus a lender’s willingness to defer consumption for future income. Essentially, the borrower pays a fee (the interest) for the convenience of accessing money sooner.