Dr. ruth is going to borrow $5,800 to write a book. the loan is for one year and the money can be borrowed at either the prime rate or the libor rate. assume the prime rate is 9 percent and libor 1.0 percent less. also assume there will be a $55 transaction fee with libor (this amount must be added to the interest cost with libor). a. what is the effective interest rate on the libor loan? (use a 360-day year. do not round intermediate calculations. input your answer as a percent rounded to 2 decimal places.) b. which loan has the lower effective interest cost? libor prime

Ans.

a. The effective interest rate on the LIBOR loan is 8.95%

b. The loan with the lower effective rate is the LIBOR.

Explanation:

Hi, well, the Prime loan is pretty straight forward, the cost is 9%, on the other hand, the LIBOR loan requires some work. First, we have to find the future value of the loan, that is:

That is:

In order to find the effective rate of the loan, and knowing that it is going to be paid one year from now, we need to use the following formula.

So, the cost of the LIBOR loan is 8.95% effective annual, and still lower than the PRIME loan.

Best of luck.

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