Interest rates aren’t all that bad depending on what side of the coin you are on. As a borrower, interest is manageable if you are able to foresee the payments you will be making in the succeeding years but it may be overwhelming if the interest you see on that next bill is not what you were preparing and saving for. This is on the other hand what a lender would be happy about. What is the role of interest rate in investments? Well, it may mean higher interest rates would bring about higher income from the savings or investments made. Regardless, it is of great importance to know and be familiar with what interest rates are.
Interest rates are different according to the type of instrument, whether it’s your traditional deposit or investment instrument, and the term of the maturity or tenor of the investment. For example, compound interest might be beneficial for those that are saving and gaining on their investments whereas one would prefer the simple interest if you are paying interest on your loans and borrowings.
What is interest?
Interest rates are prices paid for the use of money for a period of time and are expressed as a percentage of the total outstanding balance that is either fixed or variable. From the viewpoint of a borrower, interest is the cost of borrowing money which is the borrowing rate. Its counterpart for the lender, interest rate is the fee for lending money which is the lending rate.
To simplify it, interest is the percentage fee you either pay when you borrow money or the money you make when you lend money.
Interest owed is the fee being paid for the money you were granted to borrow, like the money you got from a salary loan approved by Social Security Services or the amount you were granted when you bought that house through a Pag-ibig housing loan. You may not consider yourself as a borrower but once you swipe that credit card, percent of that payment you used for the purchase has been lent to you by the bank card issuer. Interest is paid as the benefit of being granted the loan or borrowing.
Interest earned is the fee being paid to you for the money you agreed to lend, like an incentive being granted to you by the bank for the money you saved or maybe invested. Even if you are not aware, that small amount of money left in your savings account or that amount you kept in your 10-year time deposit account is considered as if you are lending such money to the bank, so in return your money earns its fair share of interest.
Simple interest Vs. Compound Interest
Simple interest is money earned just on the amount of money invested. As a borrower, this will be your friend since you will be able to compute and foresee your upcoming payments without much worry on whether the interest would have increased dramatically, but as an investor, there may not be as much gain if the interest would be playing safe.
In another note, compound interest is interest gained on both the original amount of money and the interest you earn. Interest can grow exponentially over time with compound interest, regardless of the beginning amount. With this, you might be interested to turn your regular deposit accounts to savings accounts since this can reach a snowball effect according to the so-called magic of compound interest. Let’s say you deposit Php10,000 pesos at a monthly compound interest rate of 1%, you would earn Php100 at your first month, then on your second month the interest of 1% would now be based on the Php10,100 pesos in your account, and so on and so forth continually increasing 1% so as long as you keep the money in your account. This being said, compound interest rates can be a disadvantage on your side when paying interest on loans but it will definitely be a booster on your savings and investments.
How are interest rates determined?
Since 1983, the Bangko Sentral ng Pillipinas (BSP) has followed a market-oriented interest policy where the level of interest rates is determined by the supply and demand for funds in the money market and their interaction. The market is free to set its own rates that’s why banks, lenders, and pawnshops can set their own interest rates. This is why some banks have different interest rates since the cost of doing business or completing transactions vary from bank to bank. However, to maintain price stability, BSP sets overnight rates including the key policy rate which the BSP borrows from banks and only under special economic and social conditions or crisis can BSP impose or regulate interest rates.
What are the different common bank interest rates?
There are numerous bank interest rates which are monitored by the BSP but here are a few you may encounter generally:
1. Savings Deposit Rate
Savings Deposit Rate is the interest rate paid by the bank to the depositor as payment for using their money during the time it is on deposit in the bank. As per Banko Sentral ng Pilipinas (BSP), it is the rate charged on deposit of banks that are interest-bearing, which can be withdrawn at any time.
2. Lending Rate
Lending Rate refers to the range of lending rates commercial banks report daily, how high and how low they set and charge as the interest for lending some money. The lowest rate of interest being imposed by the financial institution is called as the prime lending rate.
3. Time Deposit Rate
Time Deposit Rate is the interest rate paid to the depositor for interest-bearing deposits but unlike in saving deposit, the maturity rate is fixed which is certified by the bank-issued certificate of deposit.
4. Bank Average Lending Rate
Bank Average Lending Rate refers to the weighted average interest being charged on the borrower for the loans they are granted in a given time period.
5. Treasury Bill (T-Bill) Rate
T-Bill Rate come in maturities consisting of 91, 182, and 364 days. This is the rate imposed on short-term debt instruments by the government to help generate funds for its outstanding obligations. Auctions are usually held at the Bureau of Treasury every Monday.
6. Philippine Interbank Reference Rate (PHIREF)
PHIREF is the implied interest rate on the peso derived from USD/PHP swap and transactions. Such rate is a firm price among financial institutions and is estimated by a fixing arrangement where the average rate is computed from the contribution of a panel of banks.
Why are bank interest rates different?
The cost of doing business depends on each bank which affects the rates they impose on the borrower or lender.
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