How to Do Interest Rates in Math

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Interest rates are among the most crucial indicators of economic health. Low interest rates encourage people to buy more goods and services; high interest rates stifle spending. Businesses borrow money to create goods and offer services based largely on the availability of credit. When interest rates are high, there's usually less credit. The mathematical formula for calculating the effective interest rates depends on two factors -- the periodic interest rate charged between payments and the number of payments to be made.

  • Determine the periodic interest rate. The periodic rate for a loan made at 18 percent interest and repaid in monthly installments, for example, would be 1.5 percent.

  • Find out how many periods it will take to repay the loan. Most mortgages involve monthly payments made over 15 or 30 years. The periods for those loans would be 180 or 360 months.

  • Determine the effective interest rate with the following formula: (1+(periodic interest rate / number of payment periods)), raised to the power of the number of payment periods), minus 1. So, if you have a loan that's scheduled to be repaid in 12 monthly installments with a periodic interest rate of 12 percent, your effective interest rate would be 12.68 percent. Written out, the equation is ((1+(.12/12))^12)-1.

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