Final answer:
Effective rates are interest rates that show how much a borrower will pay in interest over one year. The compounding frequencies that are considered effective rates include ``Monthly compounding, Quarterly compounding, and annual compounding.``
The answer is option ⇒a, c and d
Step-by-step explanation:
Effective rates are interest rates that represent the total amount a borrower will pay in interest over the course of one year. The following compounding frequencies are considered effective rates:
1. Monthly compounding:
- - With monthly compounding, interest is calculated and added to the initial amount on a monthly basis.
- - This compounding frequency leads to a higher effective rate compared to annual compounding, as the interest is added more frequently throughout the year.
- - For example, if the annual interest rate is 5%, the effective rate with monthly compounding would be slightly higher due to the additional compounding periods.
2. Quarterly compounding:
- - With quarterly compounding, interest is calculated and added to the initial amount every three months.
- - The effective rate with quarterly compounding will be lower than the monthly compounding rate but higher than the annual compounding rate.
- - The interest is compounded more frequently than semi-annual or annual compounding, resulting in a higher effective rate.
3. Annual compounding:
- - With annual compounding, interest is calculated and added to the initial amount once a year.
- - The effective rate with annual compounding will be lower than the rates with monthly or quarterly compounding.
- - Since the interest is only compounded once a year, there are fewer compounding periods, resulting in a lower effective rate.
To summarize, effective rates reflect the total interest a borrower will pay over one year. The compounding frequencies that determine these rates include monthly, quarterly, and annual compounding. Monthly compounding leads to the highest effective rate, followed by quarterly compounding, and then annual compounding, which typically has the lowest effective rate.
The answer is option ⇒a, c and d