Determinants of interest rate
- The level of demand for loanable funds (that is, funds available in financial institutions for lending). The higher the demand, the higher the interest rate and the lower the demand, the lower the interest rate.
- The level of liquidity preference. The higher the liquidity preference by individuals, the higher the interest rate and the lower the liquidity preference, the lower the interest rate.
- The period taken to repay the loan. The longer the period, the higher the interest rate and the shorter the period, the lower the interest rate.
- The level of money supply. Increased money supply reduces interest rates and decrease in money supply increases interest rates.
- The level of inflation in the country. The higher the level of inflation, the higher the interest rate and the lower the inflation rate, the lower the interest rate.
- Amount of money borrowed. The higher the amount, the higher the interest rate arid the lower the amount, the lower the interest rate.
- Risks involved in lending. High risks increase the interest rate while low risks reduce the interest rate.
- The nature of time preference. Time preference refers to the extent to which individuals prefer consumption in the present than in future. Positive time preference (that is, when the individual prefers consumption today than in future), increases the interest rate while negative time preference (that is, when the individual prefers consumption in future than today) reduces the interest rate.
- Government policy where the government may set the interest rate.
CATEGORIES Economics
TAGS Dr. Bbosa Science
