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16 September, 04:15

The Lodge borrowed $2,000,000 for five years at an annual interest rate of 9% from the Merchant Bank, which required a $100,000 compensating balance. What was the effective interest rate for the loan? (rounded to the nearest tenth of one percent)

a) 9.0%

b) 9.5%

c) 10.0%

d) 10.5%

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Answers (1)
  1. 16 September, 04:41
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    option (b) 9.5%

    Explanation:

    Data provided in the question:

    Loan Amount = $2,000,000

    Annual interest rate = 9%

    Required compensating balance = $100,000

    Now,

    Effective interest rate (EIR)

    = (loan * Annual interest on loan) : (Loan - Required compensating balance)

    = ($2,000,000 * 9%) : ($2,000,000 - $100,000)

    = ($2,000,000 * 0.09) : ($1,900,000)

    = 0.0947 ≈ 0.095

    or

    = 0.095 * 100%

    = 9.5%

    Hence,

    the answer is option (b) 9.5%
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