as asked by Cyriaque, let's discuss the difference between effective rate of interest and nominal rate of interest.
discussion of effective rate of interest and nominal rate of interest
by HITAYEZU Innocent -
Number of replies: 27
In reply to HITAYEZU Innocent
Re: discussion of effective rate of interest and nominal rate of interest
by ERIC NZAYISENGA -
The nominal interest rate does not take into account the compounding period. The effective interest rate does take the compounding period into account and thus is a more accurate measure of interest charges.
In reply to HITAYEZU Innocent
Re: discussion of effective rate of interest and nominal rate of interest
by Mujyarugamba Donath -
Nominal vs. Effective Rates
Nominal interest rate is also defined as a stated interest rate. This interest works according to the simple interest and does not take into account the compounding periods. Effective interest rate is the one which caters the compounding periods during a payment plan. It is used to compare the annual interest between loans with different compounding periods like week, month, year etc. In general stated or nominal interest rate is less than the effective one. And the later depicts the true picture of financial payments. The nominal interest rate is the periodic interest rate times the number of periods per year. For example, a nominal annual interest rate of 12% based on monthly compounding means a 1% interest rate per month (compounded).
Nominal interest rate is also defined as a stated interest rate. This interest works according to the simple interest and does not take into account the compounding periods. Effective interest rate is the one which caters the compounding periods during a payment plan. It is used to compare the annual interest between loans with different compounding periods like week, month, year etc. In general stated or nominal interest rate is less than the effective one. And the later depicts the true picture of financial payments. The nominal interest rate is the periodic interest rate times the number of periods per year. For example, a nominal annual interest rate of 12% based on monthly compounding means a 1% interest rate per month (compounded).
In reply to HITAYEZU Innocent
Re: discussion of effective rate of interest and nominal rate of interest
by DIANE NAMAHORO -
Effective interest rate is the one which caters the compounding periods during a payment plan. It is used to compare the annual interest between loans with different compounding periods like week, month, year etc. ... The nominal interest rate is the periodic interest rate times the number of periods per year.
In reply to HITAYEZU Innocent
Re: discussion of effective rate of interest and nominal rate of interest
An interest rate takes two forms: nominal interest rate and effective interest rate. The nominal interest rate does not take into account the compounding period. The effective interest rate does take the compounding period into account and thus is a more accurate measure of interest charges.
A statement that the "interest rate is 10%" means that interest is 10% per year, compounded annually. In this case, the nominal annual interest rate is 10%, and the effective annual interest rate is also 10%. However, if compounding is more frequent than once per year, then the effective interest rate will be greater than 10%. The more often compounding occurs, the higher the effective interest rate.
A statement that the "interest rate is 10%" means that interest is 10% per year, compounded annually. In this case, the nominal annual interest rate is 10%, and the effective annual interest rate is also 10%. However, if compounding is more frequent than once per year, then the effective interest rate will be greater than 10%. The more often compounding occurs, the higher the effective interest rate.
In reply to HITAYEZU Innocent
Re: discussion of effective rate of interest and nominal rate of interest
by ELIPHASE MUNEZERO -
Nominal Interest Rate. Also known as simple interest rate. Nominal interest is calculated on the original principal only. If you borrow $100,000 for one year at 7%, you end up paying back $107,000.
Effective Interest Rate. Also known as compound interest. With effective interest, the interest rate is applied to the original principal AND all the accumulated interest. If you borrow $100,000 for one year at 7% and the interest is compounded semi-annually, you end up paying back $107,122.50. Therefore, the effective interest rate is actually 7.1225%. In Canada, this is known as the Annual Percentage Rate (APR) and it’s the rate that Canadian mortgage lenders are required to quote.
Effective Interest Rate. Also known as compound interest. With effective interest, the interest rate is applied to the original principal AND all the accumulated interest. If you borrow $100,000 for one year at 7% and the interest is compounded semi-annually, you end up paying back $107,122.50. Therefore, the effective interest rate is actually 7.1225%. In Canada, this is known as the Annual Percentage Rate (APR) and it’s the rate that Canadian mortgage lenders are required to quote.
In reply to HITAYEZU Innocent
Re: discussion of effective rate of interest and nominal rate of interest
by JEAN PIERRE KABERUKA -
interest rate takes two forms: nominal interest rate and effective interest rate. The nominal interest rate does not take into account the compounding period. The effective interest rate does take the compounding period into account and thus is a more accurate measure of interest charges.
In reply to JEAN PIERRE KABERUKA
Re: discussion of effective rate of interest and nominal rate of interest
by BAYISENGE Hélène -
A nominal rate does not take into account the compounding period while the effective rate does take the compounding period into account and thus the more accurate measure of interest charge.
The economic analysis said that as example , a statement that the interest rate is 10% means that interest is 10% per year compounded annually ,in this case the nominal annual interest rate is 10%and the effectives annual interest rate also 10%. However if compound is more frequent that once per year, then the effective rate will be greater than 10%.
In reply to HITAYEZU Innocent
Re: discussion of effective rate of interest and nominal rate of interest
Nominal interest rate is the stated interest rate of a bond or loan which signifies the actual monetary price borrowers pay lenders to use their money. While
Effective interest rate is the real return on savings account or any interest paying investment when the effects of compounding over time are taken into account.
The difference between nominal interest rate and effective interest rate is that:
Nominal interest rate doesn't take into account the compounding period. While
Effective interest rate does take the compounding period into account and thus is a more accurate measure of interest charges.
For example: if a bond pays 6% annually and compounds semiannually, an investor who places $1000 in this bond will receive $30 of interest payments after the first six months ($1000*0.3), and $30.90 of interest after the next six months ($1030*0.3). In total, this investor receives $60.90 for the year.
In this scenario, while the norminao rate is 6%, the effective rate is 6.09%.
Effective interest rate is the real return on savings account or any interest paying investment when the effects of compounding over time are taken into account.
The difference between nominal interest rate and effective interest rate is that:
Nominal interest rate doesn't take into account the compounding period. While
Effective interest rate does take the compounding period into account and thus is a more accurate measure of interest charges.
For example: if a bond pays 6% annually and compounds semiannually, an investor who places $1000 in this bond will receive $30 of interest payments after the first six months ($1000*0.3), and $30.90 of interest after the next six months ($1030*0.3). In total, this investor receives $60.90 for the year.
In this scenario, while the norminao rate is 6%, the effective rate is 6.09%.
In reply to GEORGETTE NYIRANGENDAHIMANA
Re: discussion of effective rate of interest and nominal rate of interest
Nominal vs. Effective Rates
Nominal interest rate is also defined as a stated interest rate. This interest works according to the simple interest and does not take into account the compounding periods. Effective interest rate is the one which caters the compounding periods during a payment plan. It is used to compare the annual interest between loans with different compounding periods like week, month, year etc. In general stated or nominal interest rate is less than the effective one. And the later depicts the true picture of financial payments. The nominal interest rate is the periodic interest rate times the number of periods per year. For example, a nominal annual interest rate of 12% based on monthly compounding means a 1% interest rate per month (compounded
Nominal interest rate is also defined as a stated interest rate. This interest works according to the simple interest and does not take into account the compounding periods. Effective interest rate is the one which caters the compounding periods during a payment plan. It is used to compare the annual interest between loans with different compounding periods like week, month, year etc. In general stated or nominal interest rate is less than the effective one. And the later depicts the true picture of financial payments. The nominal interest rate is the periodic interest rate times the number of periods per year. For example, a nominal annual interest rate of 12% based on monthly compounding means a 1% interest rate per month (compounded
In reply to HITAYEZU Innocent
Re: discussion of effective rate of interest and nominal rate of interest
by LIS KARANGWA -
The nominal interest rate does not take into account the compounding period. The effective interest rate does take the compounding period into account and thus is a more accurate measure of interest charges.
In reply to HITAYEZU Innocent
Re: discussion of effective rate of interest and nominal rate of interest
by XAVIER MUTUYIMANA -
Effective interest rate is the one which caters the compounding periods during a payment plan. ... The nominal interest rate is the periodic interest rate times the number of periods per year. For example, a nominal annual interest rate of 12% based on monthly compounding means a 1% interest rate per month (compounded).
In reply to HITAYEZU Innocent
Re: discussion of effective rate of interest and nominal rate of interest
by NICOLE KABAKESHA -
The difference between nominal interest rate and effective interest rate is that:
Nominal interest rate does not take into account the compounding period while The effective interest rate does take the compounding period into account and thus is a more accurate measure of interest charges.
By using examples for each:
Nominal Interest Rate. Also known as simple interest rate. Nominal interest is calculated on the original principal only. If you borrow $100,000 for one year at 7%, you end up paying back $107,000.
Effective Interest Rate. Also known as compound interest. With effective interest, the interest rate is applied to the original principal AND all the accumulated interest. If you borrow $100,000 for one year at 7% and the interest is compounded semi-annually, you end up paying back $107,122.50. Therefore, the effective interest rate is actually 7.1225%. In Canada, this is known as the Annual Percentage Rate (APR) and it’s the rate that Canadian mortgage lenders are required to quote.
Nominal interest rate does not take into account the compounding period while The effective interest rate does take the compounding period into account and thus is a more accurate measure of interest charges.
By using examples for each:
Nominal Interest Rate. Also known as simple interest rate. Nominal interest is calculated on the original principal only. If you borrow $100,000 for one year at 7%, you end up paying back $107,000.
Effective Interest Rate. Also known as compound interest. With effective interest, the interest rate is applied to the original principal AND all the accumulated interest. If you borrow $100,000 for one year at 7% and the interest is compounded semi-annually, you end up paying back $107,122.50. Therefore, the effective interest rate is actually 7.1225%. In Canada, this is known as the Annual Percentage Rate (APR) and it’s the rate that Canadian mortgage lenders are required to quote.
In reply to HITAYEZU Innocent
Re: discussion of effective rate of interest and nominal rate of interest
by Francis Mudaheranwa -
Nominal interest rate and effective interest rate. The nominal interest rate does not take into account the compounding period of funds.
While
The effective interest rate do take the compounding period into account and thus is a more accurate measure of interest charges in dealing with financial instruments.
In reply to HITAYEZU Innocent
Re: discussion of effective rate of interest and nominal rate of interest
by DANIEL DUSENGIMANA -
An interest rate takes two forms: nominal interest rate and effective interest rate. The nominal interest rate does not take into account the compounding period. The effective interest rate does take the compounding period into account and thus is a more accurate measure of interest charges.
A statement that the "interest rate is 10%" means that interest is 10% per year, compounded annually. In this case, the nominal annual interest rate is 10%, and the effective annual interest rate is also 10%. However, if compounding is more frequent than once per year, then the effective interest rate will be greater than 10%. The more often compounding occurs, the higher the effective interest rate.
The relationship between nominal annual and effective annual interest rates is:
ia = [ 1 + (r / m) ] m - 1
where "ia" is the effective annual interest rate, "r" is the nominal annual interest rate, and "m" is the number of compounding periods per year.
Example: A credit card company charges 21% interest per year, compounded monthly. What effective annual interest rate does the company charge?
r = 0.21 per year
m = 12 months per year
ia = [ 1 + (.21 / 12) ] 12 - 1
= [1 + 0.0175 ] 12 - 1
= (1.0175)12 - 1 = 1.2314 - 1
= 0.2314 = 23.14%
It may be desired to find the effective interest rate for a period other than annual. In this case, adjust the period for "r" and "m" as needed. For example, if the effective interest rate per semi annual period (every 6 months) is desired, then
r = nominal interest rate per 6 months
m = number of compounding periods per 6 months
and the effective interest rate, isa, per semi-annual period, is:
isa = [ 1 + (r / m) ] m - 1
A statement that the "interest rate is 10%" means that interest is 10% per year, compounded annually. In this case, the nominal annual interest rate is 10%, and the effective annual interest rate is also 10%. However, if compounding is more frequent than once per year, then the effective interest rate will be greater than 10%. The more often compounding occurs, the higher the effective interest rate.
The relationship between nominal annual and effective annual interest rates is:
ia = [ 1 + (r / m) ] m - 1
where "ia" is the effective annual interest rate, "r" is the nominal annual interest rate, and "m" is the number of compounding periods per year.
Example: A credit card company charges 21% interest per year, compounded monthly. What effective annual interest rate does the company charge?
r = 0.21 per year
m = 12 months per year
ia = [ 1 + (.21 / 12) ] 12 - 1
= [1 + 0.0175 ] 12 - 1
= (1.0175)12 - 1 = 1.2314 - 1
= 0.2314 = 23.14%
It may be desired to find the effective interest rate for a period other than annual. In this case, adjust the period for "r" and "m" as needed. For example, if the effective interest rate per semi annual period (every 6 months) is desired, then
r = nominal interest rate per 6 months
m = number of compounding periods per 6 months
and the effective interest rate, isa, per semi-annual period, is:
isa = [ 1 + (r / m) ] m - 1
In reply to HITAYEZU Innocent
Re: discussion of effective rate of interest and nominal rate of interest
Effective interest rate is the one which caters the compounding periods during a payment plan. ... The nominal interest rate is the periodic interest rate times the number of periods per year. For example, a nominal annual interest rate of 12% based on monthly compounding means a 1% interest rate per month (compounded).
In reply to HITAYEZU Innocent
Re: discussion of effective rate of interest and nominal rate of interest
Effective interest rate is the one which caters the compounding periods during a payment plan. ... The nominal interest rate is the periodic interest rate times the number of periods per year. For example, a nominal annual interest rate of 12% based on monthly compounding means a 1% interest rate per month (compounded).
In reply to HITAYEZU Innocent
Re: discussion of effective rate of interest and nominal rate of interest
by SANDRINE NIKUZE -
An interest rate takes two forms: nominal interest rate and effective interest rate. The nominal interest rate does not take into account the compounding period. The effective interest rate does take the compounding period into account and thus is a more accurate measure of interest charges.
In reply to HITAYEZU Innocent
Re: discussion of effective rate of interest and nominal rate of interest
by NICOLE KAMPIRE -
The nominal interest rate doesn't take into account the compounding period but the effective interest rate takes into account the compounding period.
In reply to HITAYEZU Innocent
Re: discussion of effective rate of interest and nominal rate of interest
by NARCISSE NKUNDIMANA -
nominal interest rate refers to the interest rate taking inflation into account.
In reply to HITAYEZU Innocent
Re: discussion of effective rate of interest and nominal rate of interest
The difference between nominal interest rate and effective interest rate is that:
Nominal interest rate does not take into account the compounding period while The effective interest rate does take the compounding period into account and thus is a more accurate measure of interest charges.
By using examples for each:
Nominal Interest Rate. Also known as simple interest rate. Nominal interest is calculated on the original principal only. If you borrow $100,000 for one year at 7%, you end up paying back $107,000.
Effective Interest Rate. Also known as compound interest. With effective interest, the interest rate is applied to the original principal AND all the accumulated interest. If you borrow $100,000 for one year at 7% and the interest is compounded semi-annually, you end up paying back $107,122.50. Therefore, the effective interest rate is actually 7.1225%. In Canada, this is known as the Annual Percentage Rate (APR) and it’s the rate that Canadian mortgage lenders are required to quote.
Nominal interest rate does not take into account the compounding period while The effective interest rate does take the compounding period into account and thus is a more accurate measure of interest charges.
By using examples for each:
Nominal Interest Rate. Also known as simple interest rate. Nominal interest is calculated on the original principal only. If you borrow $100,000 for one year at 7%, you end up paying back $107,000.
Effective Interest Rate. Also known as compound interest. With effective interest, the interest rate is applied to the original principal AND all the accumulated interest. If you borrow $100,000 for one year at 7% and the interest is compounded semi-annually, you end up paying back $107,122.50. Therefore, the effective interest rate is actually 7.1225%. In Canada, this is known as the Annual Percentage Rate (APR) and it’s the rate that Canadian mortgage lenders are required to quote.
In reply to HITAYEZU Innocent
Re: discussion of effective rate of interest and nominal rate of interest
The difference between nominal interest rate and effective interest rate is that:
The nominal interest rate does not take into account the compounding period. While
The effective interest rate does take the compounding period into account and thus is a more accurate measure of interest charges.
The nominal interest rate does not take into account the compounding period. While
The effective interest rate does take the compounding period into account and thus is a more accurate measure of interest charges.
In reply to HITAYEZU Innocent
Re: discussion of effective rate of interest and nominal rate of interest
Effective interest rate is the one which caters the compounding periods during a payment plan. ... The nominal interest rate is the periodic interest rate times the number of periods per year. For example, a nominal annual interest rate of 12% based on monthly compounding means a 1% interest rate per month (compounded)
In reply to HITAYEZU Innocent
Re: discussion of effective rate of interest and nominal rate of interest
by CLAUDINE MUKAMANA -
The nominal interest rate and effective interest rate are differentiated by compounding where nominal interest rate does not take into account the compounding period. While the effective interest rate does take the compounding period into account and thus is a more accurate measure of interest charges.
In reply to HITAYEZU Innocent
Re: discussion of effective rate of interest and nominal rate of interest
The nominal interest rate does not take into account the compounding period. while the effective interest rate is the one which caters the compounding periods during a payment plan.
In reply to HITAYEZU Innocent
Re: discussion of effective rate of interest and nominal rate of interest
by ELISA BYIRINGIRO -
Narminal interest rate is stated interest rate this interest warks according to the simple interest and do not take into account the compound periods while effective interest rate is the ane which caters the compounding periods during a payment
In reply to HITAYEZU Innocent
Re: discussion of effective rate of interest and nominal rate of interest
by EMMANUEL GAHINYUZA -
Nominal interest rate is also defined as a stated interest rate. This interest works
according to the simple interest and does not take into account the compounding periods.
Effective interest rate is the one which caters the compounding periods during a payment
plan.
according to the simple interest and does not take into account the compounding periods.
Effective interest rate is the one which caters the compounding periods during a payment
plan.
It is used to compare the annual interest between loans with different compounding
periods like week, month, year etc.
periods like week, month, year etc.
In general stated or nominal interest rate is less than
the effective one. And the later depicts the true picture of financial payments.
The nominal interest rate is the periodic interest rate times the number of periods per
year.
the effective one. And the later depicts the true picture of financial payments.
The nominal interest rate is the periodic interest rate times the number of periods per
year.
For example, a nominal annual interest rate of 12% based on monthly compounding
means a 1% interest rate per month (compounded).
means a 1% interest rate per month (compounded).
A nominal interest rate for
compounding periods less than a year is always lower than the equivalent rate with
annual compounding (this immediately follows from elementary algebraic manipulations
of the formula for compound interest). Note that a nominal rate without the compounding
frequency is not fully defined: for any interest rate, the effective interest rate cannot be
specified without knowing the compounding frequency and the rate. Although some
conventions are used where the compounding frequency is understood, consumers in
particular may fail to understand the importance of knowing the effective rate.
Nominal interest rates are not comparable unless their compounding periods are the
same; effective interest rates correct for this by "converting" nominal rates into annual
compound interest.
compounding periods less than a year is always lower than the equivalent rate with
annual compounding (this immediately follows from elementary algebraic manipulations
of the formula for compound interest). Note that a nominal rate without the compounding
frequency is not fully defined: for any interest rate, the effective interest rate cannot be
specified without knowing the compounding frequency and the rate. Although some
conventions are used where the compounding frequency is understood, consumers in
particular may fail to understand the importance of knowing the effective rate.
Nominal interest rates are not comparable unless their compounding periods are the
same; effective interest rates correct for this by "converting" nominal rates into annual
compound interest.
In many cases, depending on local regulations, interest rates as
quoted by lenders and in advertisements are based on nominal, not effective interest rates,
and hence may understate the interest rate compared to the equivalent effective annual
rate.
The term should not be confused with simple interest (as opposed to compound interest)
which is not compounded.
The effective interest rate is always calculated as if compounded annually.
quoted by lenders and in advertisements are based on nominal, not effective interest rates,
and hence may understate the interest rate compared to the equivalent effective annual
rate.
The term should not be confused with simple interest (as opposed to compound interest)
which is not compounded.
The effective interest rate is always calculated as if compounded annually.
The effective
rate is calculated in the following way, where ie is the effective rate, r the nominal rate
(as a decimal, e.g. 12% = 0.12), and “m” the number of compounding periods per year
(for example, 12 for monthly compounding):
ie = (1 + r/m)m - 1
rate is calculated in the following way, where ie is the effective rate, r the nominal rate
(as a decimal, e.g. 12% = 0.12), and “m” the number of compounding periods per year
(for example, 12 for monthly compounding):
ie = (1 + r/m)m - 1
In reply to HITAYEZU Innocent
Re: discussion of effective rate of interest and nominal rate of interest
by HODARI NGABONZIZA -
the Nominal interest rate does not put into account the compounding period while effective interest rate does.