Differences in Pure Interest
Pure interest may be different in different investments, when the market is not the same owing to the following reasons (0) Differences Due to Distances. People are usually more willing to invest their capital nearer home than at a long distance. This maycreate differences in supply and demand due to the comparative immobility of capital. (b) Differences Due to Time, If people have ,0 part with their money for a longer period, they expect higher rate of interest even though risks and other factors are the same. Of course, if money is lent for very short periods and has to be re-lent again and again, the inconvenience of management will increase gross interest. But that will not be net interest. (e) Differences Due to the Amount oUhe Loan. II is generally seen that the rate of interest varies inversely with the amount of the loan. The rate decreases as the amount of the loan in…rea<;eS.and vice versa (d) Differences in Liquidity. By ‘liquidity’ we mcan the ease with which the loan given can be called back or the ease with ‘which an asset like securities can be sold without monetary loss when its owner requires cash. The sale of some securities may involve delay, cost or capital loss, while others may be readily disposed of without such cost or monetary loss. The more liquid securities will carry a lower rate of interest and vice-versa, (e) Maturity Period. Another reason for differences in interest rates is the maturity of the loan, i.e., the length of the loan. Other thin s being equal, long term loans will carry high cr rates of interest than do short-term loans, since the long-term lenders suffer greater inconvenience and possible financial sacrifice of foregoing alternative uses for their money for a longer period of time. On a I g-term loan, there is a
risk of drop in the value of the securities or a possible rise in the price level. TIle lender must, therefore, charge more to cover the possible loss. Hence, a long term bond will have to offer a higher rate of interest than a short-term bond, other thing being equal.
(/) JIll rkct Imperfections. Another factor which explains some of the differences in interest rates is the market imperfections or monopoly element. A bank in a small town, which has a monopoly ill local money market. may charge a higher rate of interest from the local people, because there the people find it very inconvenient .0″shop around” at banks in distant cities. On the other hand a large corporation (i.e., joint-stock company) being not confined to a local market enjoys a more competitive position and can surveyor shop Interest • 389 around all possible lending houses. Therefore, a large nationally known corporation can sell its bonds on favourable tL ms