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Мировое хозяйство и международные экономические отношения
The Role of Interest Rate in Finance
Author: Tahirov Muhammadaziz, student, Tashkent Financial Institute
An interest rate is the rate at which interest is paid by a borrower for the use of money that they borrow from a lender. Specifically, the interest rate (I/m) is a percent of principal (I) paid at some rate (m). For example, a small company borrows capital from a bank to buy new assets for their business, and in return the lender receives interest at a predetermined interest rate for deferring the use of funds and instead lending it to the borrower. Interest rates are normally expressed as a percentage of the principal for a period of one year.
Interest rates targets are also a vital tool of monetary policy and are taken into account when dealing with variables like investment, inflation, and unemployment. Although most of the assumptions and expectations made by the Central Banks or Reserve Banks by countries (and economies) that by technically lowering the interest rate would produce the effect of increasing investments and consumptions, however, low interest rate by macro-economic policy is also risky and would also lead to the creation of massive economic bubble, when great amount of investments are poured into the real estate market and stock market, as what Japan experienced in the late 1980s and early 1990s that resulted in the large numbers of accounts of unpaid debts to the Japanese Banks and bankruptcy of these banks and caused stagflation to the local Japanese Economy (Japan being the second largest economy at the time), with exports becoming the last pillar for the growth of Japanese economy throughout the rest of 1990s and early 2000. The same scenario occurs to the United States' lowering of interest rate since late 1990s to present (see 2007–2012 global financial crisis) substantially by the decision of Federal Reserve System. Under Margaret Thatcher, United Kingdom's economy was maintaining stable growth by preventing to lower the interest rate by the Bank of England. For developed economies, the pace of the function of the interest rate therefore is inevitably argued either to be protecting the designated range of mild inflation in an economy for the health of economic activities or cap the interest rate concurrently with the economic growth to safeguard the economic momentum. Also we can say a lot of examples for historical interest rates. For example: Germany experienced deposit interest rates from 14% in 1969 down to almost 2% in 2003
Interest rates consist of two parts: nominal and real interest rates. in finance and economics, rate or nominal interest rate of interest refers to two distinct things: the rate of interest before adjustment for inflation (in contrast with the real interest rate); or, for interest rates "as stated" without adjustment for the full effect of compounding (also referred to as the nominal annual rate).
An interest rate is called if the frequency of compounding (e.g. a month) is not identical to the normally a year. When calculating interest rates the nominal rate of interest refers calculated without any adjustment for inflation or for the full effect of compounding. Imagine that you purchase a bond for one year that pays 6% interest rate at the end of 12months,a $100investment will return $106.and at this time 6% interest rate is nominal interest rate and it doesn’t account for inflation during one year.
Real interest rate provides more accurate measure of the true costs of borrowing and true gains from lending than nominal interest rates, and hence provide a better indicator of the incentives to borrow and lend. Real interest rate includes conception for value cost through inflation, whereas the nominal interest rate excludes this. Real interest rates can be measured with ‘Fisher equation: ir (t)=i(t)-inf (t).in this formula ir(t)=real interest rate; i(t)=nominal interest rate inf (t)=inflation rate. In particular, for any given nominal interest rate on a debt instrument, the incentive to borrow will be higher if the real interest rate associated with nominal interest rate is lower. This is so since a higher expected inflation rate means the borrower can expect to pay off this future nominal debt obligations using cheaper dollars than he borrowed. For this same reason, the incentive to lend will be lower if the real interest rate associated with nominal interest rate is lower. Imagine If we give example the same as for nominal: imagine investing the same bond and accounting for a 3% inflation rate for a year. If we buy an item a $100 at the start of the year, the same item would cost $103 at the end of the year. If we then invest $100 into the 6% bond for a year, we will lose 3%to inflation-meaning the real interest bond is actually 3%.There are a lot of reasons of changing of interest rates:
1.Political short-term gain: Lowering interest rates can give the economy a short-run boost. Under normal conditions, most economists think a cut in interest rates will only give a short term gain in economic activity that will soon be offset by inflation. The quick boost can influence elections. Most economists advocate independent central banks to limit the influence of politics on interest rates.
2.Deferred consumption: When money is loaned the lender delays spending the money on consumption goods. Since according to time preference theory people prefer goods now to goods later, in a free market there will be a positive interest rate.
Inflationary expectations: Most economies generally exhibit inflation, meaning a given amount of money buys fewer goods in the future than it will now. The borrower needs to compensate the lender for this.
3.Risks of investment: There is always a risk that the borrower will go bankrupt, abscond, die, or otherwise default on the loan. This means that a lender generally charges a risk premium to ensure that, across his investments, he is compensated for those that fail.
4.Liquidity preference: People prefer to have their resources available in a form that can immediately be exchanged, rather than a form that takes time or money to realize.
5.Taxes: Because some of the gains from interest may be subject to taxes, the lender may insist on a higher rate to make up for this loss.
In Uzbekistan also interest rates on deposits are growing day by day. For example,
Interest rates on deposits in Uzbekistan increases in July. Average annual interest rate on term deposits in sums in July made up 21.51%, AFS-Research said in its monthly report "Uzbekistan: Interest rates on bank deposits for July». Average interest rate on checking accounts in sums in July comprised 3.86%. The interest rate increased by 0.37 points in past month. Average interest rate on 3-month sums deposit increased by 2.44 points and in July made up 20.86%. Average interest rate on 6-month sums deposits increased by 3.33 points to 22.05%. Average interest by5.points compared to previous month to 21.7%
interaction: The review includes information on each bank, current and previous interest rates, changes, etc. Average annual interest rate on term deposits in soums in July made up 21.51%, and increased by 3.59 points compared to previous month.
In July, average annual interest rate on term deposits in the US dollar was 7.10% or up 0.28 points compared to June.
Average interest rate on term deposits in euro decreased by 0.19 points and made up 6.46%.
Changes in sums deposits are connected to introduction of new deposits and positive change of interest rates in a number of banks of Uzbekistan. Leaders among them are Ipotekabank, Halqbank and Kapitalbank. Largest increase in rates are spotted in 12 month term deposits, with 15-15 points grow in a leading banks.
The investment company said changes in USD and Euro are not significant and related to suspension of some deposits. AFS Research gathers information from 27 main commercial banks based on publications in mass media and direct previous month to 21.79%.
In summary i want to say that interest rates are the main determinant of investment on a macroeconomic scale. The current thought is that if interest rates increase across the board, then investment decreases, causing a fall in national income. However, the Austrian School of Economics sees higher rates as leading to greater investment in order to earn the interest to pay the depositors. Higher rates encourage more saving and thus more investment and thus more jobs to increase production to increase profits. Higher rates also discourage economically unproductive lending such as consumer credit and mortgage lending. Also consumer credit tends to be used by consumers to buy imported products whereas business loans tend to be domestic and lead to more domestic job creation [and or capital investment in machinery] in order to increase production to earn more profit.
A government institution, usually a central bank, can lend money to financial institutions to influence their interest rates as the main tool of monetary policy. Usually central bank interest rates are lower than commercial interest rates since banks borrow money from the central bank then lend the money at a higher rate to generate most of their profit.
By altering interest rates, the government institution is able to affect the interest rates faced by everyone who wants to borrow money for economic investment. Investment can change rapidly in response to changes in interest rates and the total output.
Литература:1.Iqtisodiyot nazariyasi. – Toshkent, 2011.
2.Byudjet soliq siyosati. – Toshkent, 2010.
3.Moliya. – Toshkent, 2011.
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