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However, not all borrowers and lenders have access to the same interest rate, even if they are subject to the same inflation. Furthermore, expectations of future inflation vary, so a forward-looking interest rate cannot depend on a single real interest rate plus a single expected rate of inflation.

Interest rates also depend on credit quality or risk of default. Gov

However, not all borrowers and lenders have access to the same interest rate, even if they are subject to the same inflation. Furthermore, expectations of future inflation vary, so a forward-looking interest rate cannot depend on a single real interest rate plus a single expected rate of inflation.

Interest rates also depend on credit quality or risk of default. Governments are normally highly reliable debtors, and the interest rate on government securities is normally lower than t

Interest rates also depend on credit quality or risk of default. Governments are normally highly reliable debtors, and the interest rate on government securities is normally lower than the interest rate available to other borrowers.

The equation:

relates expectations of inflation and credit risk to nominal and expected real interest rates, over the life of a loan, where

i is the nominal interest applied
r is the real interest expected
π is the inflation expected and
c is yield spread according to the perceived credit risk.

Default interest

Default interest is the rate of interest that a borrower must pay after material breach of a loan covenant.

The default interest is usually much higher than the original interest rate since it is reflecting the agg

Default interest is the rate of interest that a borrower must pay after material breach of a loan covenant.

The default interest is usually much higher than the original interest rate since it is reflecting the aggravation in the financial risk of the borrower. Default interest compensates the lender for the added risk.

From the borrower's perspective, this means failure to make their regular payment for one or two payment periods or failure to pay taxes or insurance premiums for the loan collateral will lead to substantially higher interest for the entire remaining term of the loan.

Banks tend to add default interest to the loan agreements in order to separate between different scenarios.

In some jurisdictions, default interest clauses

The default interest is usually much higher than the original interest rate since it is reflecting the aggravation in the financial risk of the borrower. Default interest compensates the lender for the added risk.

From the borrower's perspective, this means failure to make their regular payment for one or two payment periods or failure to pay taxes or insurance premiums for the loan collateral will lead to substantially higher interest for the entire remaining term of the loan.

Banks tend to add default interest to the loan agreements in order to separate between different scenarios.

In some jurisdictions, default interest clauses are unenforceable as against public policy.

Shorter terms often have less risk of default and exposure to inflation because the near future is easier to predict. In these circumstances, short-term interest rates are lower than longer-term interest rates (an upward sloping yield curve).

Government intervention

It is increasingly recognized that during the business cycle, Open market operations are one tool within monetary policy implemented by the Federal Reserve to steer short-term interest rates. Using the power to buy and sell treasury securities, the Open Market Desk at the Federal Reserve Bank of New York can supply the market with dollars by purchasing U.S. Treasury notes, hence increasing the nation's money supply. By increasing the money supply or Aggregate Supply of Funding (ASF), interest rates will fall due to the excess of dollars banks will end up with in their reserves. Excess reserves may be lent in the Fed funds market to other banks, thus driving down rates.

It is increasingly recognized that during the business cycle, interest rates and credit risk are tightly interrelated. The Jarrow-Turnbull model was the first model of credit risk that explicitly had random interest rates at its core. Lando (2004), Darrell Duffie and Singleton (2003), and van Deventer and Imai (2003) discuss interest rates when the issuer of the interest-bearing instrument can default.

Money and inflation

Loans and bonds have some of t

Loans and bonds have some of the characteristics of money and are included in the broad money supply.

National governments (provided, of course, that the country has retained its own currency) can influence interest rates and thus the supply and demand for such loans, thus altering the total of loans and bonds issued. Generally speaking, a higher real interest rate reduces the broad money supply.

Through the