Real and Nominal Rate

Arnold · 05-09-2007, 07:19 PM

Well Another Aspect to this Real rates of return and nominal ratres of return Well i think all of us have spoken about the inflation factor but there is just one more aspect..

Financial Institutions normally quote rates say 10 % per annum with interest paid half yearly So the nominal rate here would be 10 % but the actuall rate of return is calculated as

Since interest is paid half yearly the interest paid would actually be 5% per half now the real rate is computed by

1+.05 (being the interest paid per half) square it up since interest is paid twice in the year if interest was paid quarterly then we would have multipilied the factor 4 times since interest paid 4 times a year . Now the Answer - 1 and X by 100 thats the real rate of return. Let me do this one

1.05X1.05 = 1.1025

1.1025-1=.1025

.1025X100= 10.25% which is the actual rate of return

derivativetrader · 05-09-2007, 07:31 PM

<blockquote id="quote">quote<hr height="1" noshade id="quote">Originally posted by Arnold
 Well Another Aspect to this Real rates of return and nominal ratres of return Well i think all of us have spoken about the inflation factor but there is just one more aspect..

Financial Institutions normally quote rates say 10 % per annum with interest paid half yearly So the nominal rate here would be 10 % but the actuall rate of return is calculated as

Since interest is paid half yearly the interest paid would actually be 5% per half now the real rate is computed by

1+.05 (being the interest paid per half) square it up since interest is paid twice in the year if interest was paid quarterly then we would have multipilied the factor 4 times since interest paid 4 times a year . Now the Answer - 1 and X by 100 thats the real rate of return. Let me do this one

1.05X1.05 = 1.1025

1.1025-1=.1025

.1025X100= 10.25% which is the actual rate of return
<hr height="1" noshade id="quote"></blockquote id="quote">

In finance, the 10% rate that is used in this example is called 'the stated interste rate', and the 10.25% is called 'the effective interest rate'.

Furthermore, if we assume the bank pays interest on daily basis then the effective rate would be 10.52%.

DT

derivativetrader · 05-09-2007, 07:37 PM

<blockquote id="quote">quote<hr height="1" noshade id="quote">Originally posted by CBPian
 You are correct .. we have negative real interest rates for many years which is one of the problems our saving rates are so low.
<hr height="1" noshade id="quote"></blockquote id="quote">

What do you mean by saving rates here? Is it the proportion of income that people save or the interest rate that they can get on the saving account?

If you meant the former than your statement is ambigious. The possible reasons for larger spreads are
a. lack of comptition amongst banks operating in the market,
b. different credit profiles (how risky are is the counterparty) of custumers. e.g. bank's borrowing rates are lower because they are seen less risky than individuals, especially, in the ecoomy where we have seen many examples of loan defaults.

DT

CBPian · 05-25-2007, 07:47 AM

<blockquote id="quote">quote<hr height="1" noshade id="quote">Originally posted by derivativetrader
 <blockquote id="quote">quote<hr height="1" noshade id="quote">Originally posted by CBPian
 You are correct .. we have negative real interest rates for many years which is one of the problems our saving rates are so low.
<hr height="1" noshade id="quote"></blockquote id="quote">

What do you mean by saving rates here? Is it the proportion of income that people save or the interest rate that they can get on the saving account?

If you meant the former than your statement is ambigious. The possible reasons for larger spreads are
a. lack of comptition amongst banks operating in the market,
b. different credit profiles (how risky are is the counterparty) of custumers. e.g. bank's borrowing rates are lower because they are seen less risky than individuals, especially, in the ecoomy where we have seen many examples of loan defaults.

DT
<hr height="1" noshade id="quote"></blockquote id="quote">

My friend.. of course I meant saving rate as a proportion of income.. it is simple economic theory that saving plummets when real interest rates are negative and there is no incentive to save.. normally then investment in other parts of the economy e.g. stock market and real estate increase as people perceive a better return in those sectors..

Your second point on spreads is theoretically correct but this is not what is happening in Pakistan.., banks have been given a literal free hand on spreads... spread over 8%-10% are ridiculous....

http//www.app.com.pk/en/index.php?option=com_content&task=view&id=8479&Itemid=2

In addition the banks have started these practices of charging unfair bank charges if your bank balance is below a certain amount... Few years ago I opened a bank account with Rs 2k and they did not tell me that the minimum balance was 5k .. they deducted 1000 in four months @ 250 a month... and all the banks are doing this.

derivativetrader · 05-25-2007, 09:07 AM

<blockquote id="quote">quote<hr height="1" noshade id="quote">Originally posted by CBPian
 

Your second point on spreads is theoretically correct but this is not what is happening in Pakistan..,

<hr height="1" noshade id="quote"></blockquote id="quote">

Infact, this is exactly happening because of lack of competition among banks that are operating in Pakistan and lack of governance from relevant authorities.

On a separate matter, this problem is common is many countries, including some developed economies. For instance, you will find similar problem in the UK.

Your other concern is probably due to lack of customer service that your bank is offering.

DT

Schuaeb · 05-25-2007, 11:46 PM

I don't think there is any lack of competition in banking sector. In fact, now days, it has become a sector with a lot of competition. I can't say anything about lack of governance. Directions from state bank to commercial banks are very commonly seen in newspapers. The recent one is to make the summary of their bank charges, which had been a big concern among consumers. Problems in Pakistan are not as simple as they seem to be

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