Your bank offers you a $40,000 line of credit with an interest rate of 1.75 percent per quarter. The loan agreement also requires that 2 percent of the unused portion of the credit line be deposited in a non-interest bearing account as a compensating balance. Your short-term investments are paying 0.20 percent per month. What is your effective annual interest rate on this arrangement if you do not borrow any money on this credit line during the year

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Business

Ace Stein

12 May, 23:32

Your bank offers you a $40,000 line of credit with an interest rate of 1.75 percent per quarter. The loan agreement also requires that 2 percent of the unused portion of the credit line be deposited in a non-interest bearing account as a compensating balance. Your short-term investments are paying 0.20 percent per month. What is your effective annual interest rate on this arrangement if you do not borrow any money on this credit line during the year

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Laney Delacruz · Answer 1

2,43% annual interest rate

Explanation:

The first part of the exercise are complementary information that you don't have to take into account because the in the final statement in the exercise literally says: "if you do not borrow any money on this credit line during the year". It means that you didn't used the line of credit. so, you only have to convert the interest that in monthly to an annual interest rate with the next formula

annual interest rate = ((1 + monthly interest) ^ (12)) - 1

the 12 is because a year has 12 months

annual interest rate = ((1 + 0,20%) ^ (12)) - 1

annual interest rate = 2,43%