Interest rates are an essential part of financial decision-making. They determine how much you pay for loans, such as mortgages or credit cards, and how much you earn on savings and investments. It’s important to understand what an interest rate is, how it’s calculated and how different types of interests affect your budget.
There are two types of interest: simple and compound. Both are calculated with slightly different formulas, but the basic idea is the same. Simple interest is less favorable if you’re borrowing money, since it only takes the principal into account. Compounding interest, on the other hand, takes into account the principal and any additional amount of money that’s been earned or owed.
Many factors influence interest rates, from personal factors such as your creditworthiness to overall economic conditions. In a low-interest-rate economy, people are more likely to borrow money and spend, which stimulates growth and consumer demand. On the other hand, a high-interest-rate economy discourages borrowing and slows economic growth.
In addition, there are different kinds of interest rates, such as fixed or variable. Fixed interest rates are the same for the life of the loan, which can help you budget. However, this type of interest rate often has a higher initial rate than variable rates, which can be a drawback if you’re looking to save.
Understanding the difference between variable and fixed rates is key to making smart financial decisions. Talk with a credit counselor today to learn more about how interest rates work and how they can impact your budget.