The discount rate is the rate that the central bank sets to lend short-term funds to commercial banks. When this rate changes, the commercial banks change their own base rate, the rate they charge their most reliable customers like large corporations (“blue chip” borrowers). This is the rate from which they calculate all their other deposit and lending rates for savers and borrowers.
Banks make their profits from the difference, known as a margin or spread, between the interest rates they charge borrowers and the rates they pay to depositors. The rate that borrowers pay depends on their creditworthiness, also known as credit standing or credit rating. This is the lender's estimation of a borrower’s present and future solvency: their
ability to pay debts. The higher the borrower’s solvency, the lower the interest rate they pay. Borrowers can usually get a lower interest rate it the loan is guaranteed by securities or other collateral. For example, mortgages for which a house or apartment is collateral are usually cheaper than ordinary bank loans or overdrafts - arrangements to borrow by spending more than is in your bank account. Long-term loans such as mortgages often have floating or variable interest rates that change according to the supply and demand for money.
Leasing or hire purchase (HP) agreements have higher interest rates than bank loans and overdrafts. These are when a consumer makes a series of monthly payments to buy durable goods (e.g. a car, furniture). Until the goods are paid for, the buyer is only hiring or renting them, and they belong to the lender. The interest rate is high as there is little security for the lender: the goods could easily become damaged.
Ex. 1Match the words with the definitions.
creditworthy floating rate invest labour
interest rate solvency output spread
1 the cost of borrowing money, expressed as a percentage of the loan
2 having sufficient cash available when debts have to be paid
3 paid work- that provides goods and services
4 a borrowing rate that isn't fixed
5 safe to lend money to
6 the difference between borrowing and lending rates
7 the quantity of goods and services produced in an economy
8 to spend money in order to produce income or profits
Ex. 2Name the interest rates and loans. Then put them in order, from the lowest rate to the highest. Look at B to help you.
a ……………: a loan to buy property (a house, flat, etc.)
b ……………: borrowing money to buy something like a car, spreading payment over 36 months
c …………….: commercial banks' lending rate for their most secure customers
d ……………: occasionally borrowing money by spending more than you have in the bank
e ……………: the rate at which central banks make secured loans to commercial banks
Lowest Highest
Ex. 3 Are the following statements TRUE or FALSE?
1 All interest rates are set by central banks.
2 When interest rates fall, people tend to spend and borrow more.
3 A borrower who is very solvent will pay a very high interest rate.
4 Loans are usually cheaper if they are guaranteed by some form of security or collateral.
5 If banks make loans to customers with a lower level of solvency, they can increase their margins.
6 One of the causes of changes in interest rates is the supply and demand for money.
Ex. 4 Comment on the following.
a) What are the average interest rates paid by banks in your country?
b) How much do borrowers have to pay for loans, overdrafts and mortgages? c) Is there much difference among competing banks?
Ex. 5 Define parts of speech.
easily, creation, individuals, faster, ability, reliable, difference, creditworthiness, durable, furniture.
Ex. 6 Match up the words from A with their antonyms from B.
A: demand, low, spend, creditworthy, floating, purchase, durable;
B: perishable, sale, supply, high, save, unreliable, fixed.
Ex. 7 Answer the following questions.
1. Who sets a country’s minimum interest rate?
2. In what case do companies invest more?
3. When is demand reduced?
4. What causes inflation?
5. What does a base rate depend on?
6. Who are “blue chip” borrowers?
7. How do banks make their profit?
8. How does borrowers’ solvency affect the interest rate they pay?
9. Why do HP agreements have high interest rates?
Ex. 8 Summarize the content of B.