Chapter 5Interest RatesAnswers to Chapter 5 Review Questions1.An interest rate is the price of using money today rather than in the future. For example, if you want to spend $100 today, you are foregoing interest that could be earned on that $100 if you left it in an interest-bearing account. This interest rate is the price of spending the money now.2.The EAR increases when discounting is more frequent because of compound interest. For a given APR, the EAR increases as compounding increases.3.The formulas for valuing cash flows require that the interest rate match the length of time between cash flows. Thus, you must match the frequency of the interest rate with the frequency of the cash flows.4.The total sum of payments on a mortgage must repay the principal and all of the interest that accrues during the mortgage period. Due to the time value of money (and compound interest), the amount of total interest on a 30-year mortgage is more than double that of a 15-year mortgage. Thus, the mortgage payment on a 15-year mortgage is not quite double that of the 30-year mortgage.
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