rate of interest

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The charge made for the loan of financial capital expressed as a proportion of the loan. A borrower usually has to repay the lender more than the value of the loan originally granted. The excess of repayment over loan is the interest charge. The rate of interest is the amount of the charge paid over a given period of time expressed as a proportion of the loan. For example, if a loan of £100 is granted for two years and an interest charge of £10 per year is made, the rate of interest per year is 10/100 = 0.1. Typically, the rate of interest is expressed as a rate per annum but it can equally be semi-annually, monthly, weekly, daily, or even continuous. If a loan is certain to be repaid, the pure rate of interest compensates the lender for loss of liquidity. If a loan is not certain to be repaid, the rate of interest is higher than the pure rate of interest, including a default premium to compensate the lender for the average loss expected through default, and a risk premium to compensate a risk-averse lender for uncertainty about how large such losses will be. See also compound interest.

Subjects: Economics.

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