Effective Annual Rate of Interest

It is common for banks to show interest rates annually instead then showing periodic interest rates.

For instance, a financial institution may show the interest rate for a saving account as 20% annually, although the deposit is compounded monthly.

In this example, eventhough the rate is quoted as 20%, the effective annual interest rate differs from 20% since the deposit is compounded monthly.

The formula for Effective Annual Rate (EAR) is:

and the periodic rate is:

m is being:

Here a sample question below as a note:

Here you can find the solution for the question in my youtube channel:

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