Difference in Interest Rates and Annual Percentage Rate
Definition of Interest Rate:
percentage cost of borrowing per year, including
loan repaid in its entirely after one year with $80
interest plus a $10 service fee, has a total finance
charge of $90, and so has an APR of 9%.
interest is calculated over the same period of time
in the same money market, it will tend to be the same.
It can, however, differ in different markets on account
of the following reasons.
Difference in the
Period of Loan:
Firstly, if a
borrower takes a long term loan from the lender, then he
will charge a higher rate of interest than what he
charges for the short period loan. It is because the
lender has to part with his money for a longer period,
so he must demand a higher rate of interest.
Secondly, in a long term loan, the risk of the
loss of funds due to dishonesty or incapability of the
borrower are more than on a short term loan.
Thirdly, businessmen demand money for a fairly
long period in order to invest that fund in fixed
equipments, like building machinery, etc., so they are
ready to pay higher rate of interest.
Fourthly, the lender hesitates to lock up their
money for longer period keeping in view the various
risks involved. Due to all these factors stated above,
the supply of loan able funds runs short of demand for
loan able funds and the rate of interest goes up. On the
other, hand, for a short period, the risk for the loss
of capital is less than on the long period. The supply
is generally in excess of demand for this fund. So the
rate of interest is usually low.
Short term and long term rates of interest generally
move in the very same direction. If the short term
rate of interest is high, the long term rate of interest
is also high. If the short term rate of interest is low,
the long term rate of interest is also generally low.
Differences Due to
Pure interest can differ
due to difference in the distances of the money market.
It is the desire of every money lender to reduce the
risks of non-payment of money. So they will prefer to
invest their amounts near at home at a lower rate of
interest than at a higher rate of interest at a long
Difference in Size of
Pure interest/net interest can also differ due to
the differences in the amount of loan demanded. The
higher the amount demanded for loan, the higher the rate
of interest and vice versa.