solve this practice problem # Time Value of Money: Comparing Interest RatesDifferent compounding periods are used for different types of investments. To properly compare investments or loans with different compounding periods, we need to put them on a common basis. To do this, you need to understand the difference between the nominal interest rate (\(I_{\text{nom}}\)) and the effective annual rate (EAR). The nominal interest rate is quoted by borrowers and lenders and is also called the annual percentage rate (APR). If the compounding periods for different securities are the same, then you can use the APR for comparison. If the securities have different compounding periods, then the EAR must be used for comparison.Here, \(M\) is the number of compounding periods per year and \(I_{\text{nom}}/M\) is equal to the periodic rate (\(I_{\text{per}}\)). If a loan or investment uses [annual] compounding, then the nominal interest rate is also its effective annual rate. However, if compounding occurs more than once a year, EAR is [higher than] \(I_{\text{nom}}\).### Quantitative Problem:Bank 1 lends funds at a nominal rate of 8% with payments to be made semiannually. Bank 2 requires payments to be made quarterly. If Bank 2 would like to charge the same effective annual rate as Bank 1, what nominal interest rate will they charge their customers? Do not round intermediate calculations. Round your answer to three decimal places.[Input box for percentage]This section helps understand how to compare interest rates with different compounding periods to make informed investment or borrowing decisions.

The Effective Rate is the interest rate that takes into account the compounding of interest over a…

Different compounding periods, are used for different types of investments. In order to properly compare investments or loans with different compounding periods, we need to put them on a common basis. In order to do this, you need to understand the difference between the nominal interest rate (INOM) and the effective annual rate (EAR). The nominal interest rate is quoted by borrowers and lenders, and it is also called the annual percentage rate (APR). If the compounding periods for different securities is the same, then you can ✓use the APR for comparison. If the securities have different compounding periods, then the EAR ✓must be used for comparison. Here, M is the number of compounding periods per year and INOM/M is equal to the periodic rate (IPER). If a loan or investment uses annual ✓ compounding, then the nominal interest rate is also its effective annual rate. However, if compounding occurs more than once a year, EAR is higher than INOM- Quantitative Problem: Bank 1 lends funds at a nominal rate of 8% with payments to be made semiannually. Bank 2 requires payments to be made quarterly. If Bank 2 would like to charge the same effective annual rate as Bank 1, what nominal interest rate will they charge their customers? Do not round intermediate calculations. Round your answer to three decimal places. %

14th Edition

ISBN:9780357130698

Author:Madura

Publisher:Madura

ChapterP5: Part 5: Short-term Asset And Liability Management

Section: Chapter Questions

Problem 5Q