Question

4) If the interest rate is 12% p.a., what is the interest rate for quarterly compounding?​

Answer 1

Answer:

Effective interest rate is calculated using below formula

E

f

f

e

c

t

i

v

e

i

n

t

e

r

e

s

t

r

a

t

e

=

(

1

+

i

n

t

e

r

e

s

t

r

a

t

e

C

o

m

p

o

u

n

d

i

n

g

f

r

e

q

u

e

n

c

y

)

C

o

m

p

o

u

n

d

i

n

g

f

r

e

q

u

e

n

c

y

−

1

Values from the question are:

Annual interest rate = 12% per year

Compounding Frequency = 4 times in a year

Lets put all the values in the formula

E

f

f

e

c

t

i

v

e

i

n

t

e

r

e

s

t

r

a

t

e

=

(

1

+

0.12

4

)

4

−

1

E

f

f

e

c

t

i

v

e

i

n

t

e

r

e

s

t

r

a

t

e

=

(

1

+

0.03

)

4

−

1

E

f

f

e

c

t

i

v

e

i

n

t

e

r

e

s

t

r

a

t

e

=

(

1.03

)

4

−

1

E

f

f

e

c

t

i

v

e

i

n

t

e

r

e

s

t

r

a

t

e

=

1.12551

−

1

E

f

f

e

c

t

i

v

e

i

n

t

e

r

e

s

t

r

a

t

e

=

0.12551

o

r

12.55

So effective annual interest rate will be 12.55% per year