how does interest rate work?!?

Question

in detail( this is my hw..)
thanks guys!! :)

Answer 1

I am agreed with the answer of SR to somehow.
There are four factors of economy i.e.
1. Land
2. Labour
3. Capital
4. Organisation.
every factor is earning on its usage
Rent for land,
wages for labour,
interest for capital,
and profit for organisation.

As capital plays a vital role in any enterprise or u can say that in economy so it has a great importance in it.
The rate of interest is so determined to maintain the level of capital in order, in enterprise or in economy (when we are speaking generally).
Then comes the concept of inflation and deflation in economy, i think there is no more need to clear these concepts.
Simply interest rate is a tool to control the inflation and deflation in economy.

Answer 2

The nominal interest rate is the amount, in money terms, of interest payable.

For example, suppose a household deposits $100 with a bank for 1 year and they receive interest of $10. At the end of the year their balance is $110. In this case, the nominal interest rate is 10% per annum.

The real interest rate, which measures the purchasing power of interest receipts, is calculated by adjusting the nominal rate charged to take inflation into account. (See real vs. nominal in economics.)

If inflation in the economy has been 10% in the year, then the $110 in the account at the end of the year buys the same amount as the $100 did a year ago. The real interest rate, in this case, is zero.

After the fact, the 'realized' real interest rate, which has actually occurred, is:

ir = in — p
where p = the actual inflation rate over the year.

The expected real returns on an investment, before it is made, are:

ir = in — pe
where:

in = nominal interest rate
ir = real interest rate
pe = expected or projected inflation over the year.

Answer 3

Interest rates work with the rise and fall of inflationInflation is a general rise in prices across the economy. This is distinct from a rise in the price of a particular good or service. Individual prices rise and fall all the time in a market economy, reflecting consumer choices and preferences, and changing costs.

Answer 4

it heps in controlling inflation.