QABE_Notes02(2)

# QABE_Notes02(2) - QABE Lecture 2 Time Value of Money School...

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QABE Lecture 2 Time Value of Money School of Economics, UNSW 2011 Contents 1 Introduction 1 2 Types of Interest 1 2 . 1 Op t i on1 :S imp l eIn t e r e s t ........................... 2 2 . 1 . 1 T e rm ino l o gy . ............................. 2 2 . 1 . 2 W o rk ingi tou t ............................. 3 2 . 2 Op t i on2 :CompoundIn t e r e s t......................... 3 2 . 2 . e l o 3 2 . 2 . o 4 2.3 Option 3: Continuously Compounded Interest . ............... 4 2 . 3 . 1 Th eexpon en t i a lc on s t an t ....................... 4 2 . 3 . o 5 2 . 4 Summ a ry . ................................... 6 3 Present Value 6 1 Introduction This week we begin a section of the course looking at the time value of money .P u t simply, the maths that we need when dealing with money . The reason we need to develop an understanding of money mathematics (as opposed to, say, just ‘numbers- mathematics’) is that numbers representing money, have the special property that they are actually representing value . The trouble is, as opposed to (say) the number ‘3’ which represents the same information yesterday, today, and tomorrow, if we were talking about ‘3 dollars’ of some currency, we would have to be very careful about when the number was quoted – that is, the value of the representation (‘3 dollars’) is deFned in part by the time that it is quoted. Three dollars today wouldn’t get you even a couple of cans of Coke, three dollars twenty years ago would have obtained you three cans of coke. An obvious question is, why does money have this peculiar ‘time-value’ property? ±or now, it is enough to raise it as a question. We start our inquiry into the realm of time-value-of-money by looking at the di²erent ways that interest can be calculated. That is, the value of a deposit (some sum of money) can grow over time in the bank’s hands. Part of this is to do with simple time-value considerations, and part of it has to do with various investments the bank has made. More on this later! 1

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ECON 1202/ECON 2291: QABE c ± School o fEconomics, UNSW Agenda 1. Simple interest 2. Compound interest 3. Continuous compounding 4. Present value 2T y p e s o f I n t e r e s t The Problem
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QABE_Notes02(2) - QABE Lecture 2 Time Value of Money School...

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