the impact of interest rates
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Most small firms are dependent on credit for their survival. Credit is a simple term to describe the different ways in which businesses borrow money.
- Long-term loans from the bank (taken out over a long period of time, generally longer than a year).
- Overdraft from a bank (withdraw money that is not in its bank account)
Key term: INTEREST RATE - The percentage cost of borrowing money for a loan over a period of time. Or the percentage reward given to savers over a period of time.
Banks charge interest on the money they lend out. Interest is the price that has to be paid to borrow money. The interest rate shows the amount of money that has to be paid to borrow a sum of money. Since many businesses have loans of some kind, the interest they have to pay is an important cost that they have to take into consideration. Interest rates can change. Rises increase costs for a business and falls reduce them.
Key term: BANK OF ENGLAND - The central bank for the UK. It monitors the banking system and is a banker to the banks. It is responsible for setting interest rates.
The interest rate that businesses have to pay is affected by the interest rate set by the Bank of England. The Bank of England is called a central bank. It acts as a banker to all the banks. It has a committee, called the Monetary Policy Committee (MPC), that meets every month to decide what interest rate it will charge to lend money to other banks. This interest rate affects interest rates throughout the banking system. If the Bank of England increases interest rates then banks will generally also increase their rates to borrowers. Equally, if the Bank of England reduces interest rates then borrowing becomes cheaper for businesses and also for people with mortgages or those wanting to borrow to buy goods like cars and washing machines.
Key term: VARIABLE INTEREST RATES - Interest rates that can change over the lifetime of a loan depending on what is happening to other interest rates in the economy.
Key term: FIXED INTEREST RATES - Interest rates that stay the same over an agreed period of a loan.
The rates on overdrafts usually change over a year, this makes them variable. This makes it difficult for a business to predict exactly the cost of borrowing. The interest rates on loans can vary too, but many loans to small businesses have fixed interest rates meaning the amount repaid will not change. This reduces the risk of borrowing for small firms.
Some small businesses will not have loans and actually have positive amounts of cash in the business. This means they have savings. Higher interest rates actually mean they can earn more interest on those savings. They lose out when interest falls.
Some small businesses will not have loans and actually have positive amounts of cash in the business. This means they have savings. Higher interest rates actually mean they can earn more interest on those savings. They lose out when interest falls.
Firms borrow money. So too do consumers. Just as firms borrow money on overdraft to get them through difficult months, consumers do the same. When interest rates go up, this makes the cost of borrowing higher. Some consumers will be put off borrowing money because of this. They might work out that they cannot afford the repayments on a loan, at a higher rate of interest. Also, they have to pay more in interest to banks and credit card companies. This reduces the amount they have to spend on other items. This will affect businesses more who sell products typically bought on credit. (e.g. furniture, cookers) New house building companies can also see sales fall dramatically as mortgage interest rates can rise and cars bought on credit.
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interest_rates_online_worksheet_mcp.docx | |
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THE IMPACT OF INTEREST RATES
Learning Objectives:
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Question: When is interest a positive thing and when is it a negative? Give examples. (4 marks)
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Key term: INTEREST RATE - The percentage cost of borrowing money for a loan over a period of time. Or the percentage reward given to savers over a period of time.
Banks charge interest on the money they lend out. Interest is the price that has to be paid to borrow money. The interest rate shows the amount of money that has to be paid to borrow a sum of money. Since many businesses have loans of some kind, the interest they have to pay is an important cost that they have to take into consideration. Interest rates can change. Rises increase costs for a business and falls reduce them.
Question: What is credit? Give examples. (2 marks)
Most small firms are dependent on credit for their survival. Credit is a simple term to describe the different ways in which businesses borrow money.
- Long-term loans from the bank (taken out over a long period of time, generally longer than a year).
- Overdraft from a bank (withdraw money that is not in its bank account)
Question: Why do small businesses rely on credit?
Key term: BANK OF ENGLAND - The central bank for the UK. It monitors the banking system and is a banker to the banks. It is responsible for setting interest rates.
The interest rate that businesses have to pay is affected by the interest rate set by the Bank of England. The Bank of England is called a central bank. It acts as a banker to all the banks. It has a committee, called the Monetary Policy Committee (MPC), that meets every month to decide what interest rate it will charge to lend money to other banks. This interest rate affects interest rates throughout the banking system. If the Bank of England increases interest rates then banks will generally also increase their rates to borrowers. Equally, if the Bank of England reduces interest rates then borrowing becomes cheaper for businesses and also for people with mortgages or those wanting to borrow to buy goods like cars and washing machines.
Stretch and challenge question: Why do you think the Bank of England changes interest rates? (3 marks)
Key term: INFLATION - a sustained increase in the general price level of goods and services in an economy over a period of time.
BALLOON ACTIVITY
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Key term: VARIABLE INTEREST RATES - Interest rates that can change over the lifetime of a loan depending on what is happening to other interest rates in the economy.
Key term: FIXED INTEREST RATES - Interest rates that stay the same over an agreed period of a loan.
The rates on overdrafts usually change over a year, this makes them variable. This makes it difficult for a business to predict exactly the cost of borrowing. The interest rates on loans can vary too, but many loans to small businesses have fixed interest rates meaning the amount repaid will not change. This reduces the risk of borrowing for small firms.
Some small businesses will not have loans and actually have positive amounts of cash in the business. This means they have savings. Higher interest rates actually mean they can earn more interest on those savings. They lose out when interest falls.
Some small businesses will not have loans and actually have positive amounts of cash in the business. This means they have savings. Higher interest rates actually mean they can earn more interest on those savings. They lose out when interest falls.
Question: Why do flexible interest rates offer less risk to businesses?
Firms borrow money. So too do consumers. Just as firms borrow money on overdraft to get them through difficult months, consumers do the same. When interest rates go up, this makes the cost of borrowing higher. Some consumers will be put off borrowing money because of this. They might work out that they cannot afford the repayments on a loan, at a higher rate of interest. Also, they have to pay more in interest to banks and credit card companies. This reduces the amount they have to spend on other items. This will affect businesses more who sell products typically bought on credit. (e.g. furniture, cookers) New house building companies can also see sales fall dramatically as mortgage interest rates can rise and cars bought on credit.
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