Whenever you purchase an item or service on credit (house, car, shoes, refrigerator, car repairs), you sign your name to a receipt or deed with a promise to pay. The lender will then ask you to repay, with interest. Let the buyer beware, because the rate of interest charged will be high or low, flat or compounded. If you agree to a compounded interest rate, you can be charged in excess of 28% a year, but compounded on a daily basis. This can result in extremely high monthly interest fees.
The lender is the one that has the right to set the rate of interest you will pay in return. Loan interest rates refer to fees placed by a lender on borrowed funds. Usually, the rate of interest is calculated by a set percentage based on a one-year timetable. That does not mean you agree to pay the funds owed within one year. It simply is a time base for calculation purposes. Before you select the option to pay in installments, you need to discuss the amount and type of interest that will be charged. Credit cards are compounded. The rate can be low or high, depending on your credit history. The lender has put out money from their funds, and the consumer has paid nothing initially. In return, the consumer agrees to pay a portion in payments on a specific date, until the full balance is paid. In return for providing the luxury, the consumer is expected to pay the lender in full, plus his fee for allowing the purchase without funds.
That is the “lender” side of interest rates. However, if you have funds available to save, then you will be privilieged to receive interest payments, depending on what method of savings plan you choose. A carefully balanced budget will have both money earning interest and money spent on expenditures that have been financed over a period of time.
Typically, a national government or the banking industry set interest rates. There are several reasons for either a high or low interest rate. Your reputation for repayment is a key factor in your personal ability to get a low rate. Banks prefer borrowers that consistently pay their debts on time. This results in a lower interest rate, based on your credit history. Another factor in determining your interest rate will be your income versus your expenses. If you earn $100 a week, but owe $200 a week in loans or credit cards, you will be considered a poor risk, and your interest rate will be higher. You may even be denied the ability to receive credit, based on your existing debt.
Other factors that are involved in calculating interest rates are the economic growth (the rate of consumption of goods), inflation (weak economy), investment risks or alternatives (on the part of the lender in regards to their funds available), taxes (depending on the type of loan) and consumer debt. Governments and bank officials will look at all reports available to predict the economic future. Therefore, the interest rates will fluctuate, based on the most recent reports on unemployment, retail sales figures, housing construction and mortgage foreclosure statistics.
During a recession (a weak economy), the government may step in and reduce interest rates, in order to stir up consumer spending. This results in the consumers being able to purchase goods with borrowed money. In return, they expect the manufacturing industry to increase production to meet the demands for goods. Manufacturers will then need more employees. The employees will then in turn spend their income. A circle of spending is anticipated. The end result is that the economy strengthens.