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CHAPTER1

SIMPLEINTEREST
1.1.

INTRODUCTION

Moneyisalegalinstrumentforexchange.Indailylife,everypersonneedsmoneyto
financehis/herbasicneeds,suchasclothes,food,houses,etc.Whenwedonothave
enoughmoneytobuysomethingortopayourliabilities,wecanborrowthemoney
from other parties, e.g. brothers, friends, neighbors, loan sharks, or financial
institutions(banks,nonbanks,pawnshops,cooperatives,etc).Ontheotherhand,when
wehaveexcessmoneywewilllookforinvestmentalternativesandchoosethemost
profitablealternative.

1.2.

THE CONCEPTS OF SIMPLE INTEREST AND TIME


VALUEOFMONEY

Ifyouarefacingtwooptions,e.g.receivingmoneyofRp.1milliontodayorRp.1
millionsixmonthsfromtodaywiththesamelevelofcertainty,whichoptionwillyou
choose?Obviously,youwillchoosetoreceiveRp.1milliontodayinsteadofreceiving
thatamountsixmonthsfromtoday.Why?
Onemayanswer,Becausethereiscertaintywhenreceivingthatamounttoday;
ontheotherhand,therewillbeuncertaintywhenreceivingthatamountsixmonthfrom
today.Ofcoursethisisnottheexpectedanswer.Toavoidthisanswer,theabove
mentioned option stated that there is the same level of certainty for both options.
Anyone who has learned economics or finance will provide the reason easily, i.e.
because of the interest factor due to time difference or known as time value of
money.
Withtheassumptionthatthehumanbeingisrational,theoptionthatshouldbe
chosenistoreceiveRp.1milliontodaycomparedwithreceivingitsixmonthsfrom
today,becauseRp1milliontodaywillgenerateinterestforsixmonths,dependingon
theinterestrate,henceitsvaluewillbemorethanRp1millionatthattime(future
value approach). We can also use the present value approach, i.e. by calculating
todaysvalueoftheamountRp.1millionwhichwillbereceivedsixmonthsfrom
todayandcompareitwiththeamountRp1milliontoday.bothapproachesshould
suggestthesamedecision.
Thesimpleexampleabovecanbecontinuedwithotheroptions.Forexample,how
ifwecompareRp.1milliontodaywithRp.1.1millionsixmonthsfromtoday;orRp.
1milliontodaywithRp.90000receiveeverymonthforoneyearstartingfromtoday.
Byunderstandingfinancialmathematics,wewillbeabletosolvethosesimple
problem,orevenformorecomplicatedproblems.inthenextdiscussionandexamples
inthisbook,theassumptionsthathumanbeingisrationalandthelevelofcertaintyis
thesame,arealwaysapplicableimplicitly.
Continuingourfirstexample,thevalueofRp.1millionsixmonthsfromtodaycan
bedeterminedifwearegiventheinformationabouttheinterestrateandwhetheritis
simpleinterest(SI)orcompoundinterest(CI).Ifweusecompoundinterest,westill

needinformationregardingthecompoundperiodorinterestcalculationperiod.That
topicwillbecompletelydiscussedinChapter4.
Ifweusethesimpleinterestconcept,theamountofinterestiscalculatedfromthe
principal(P)timestheinterestrate(r)andthetime(t).Thecalculationoftheinterestis
doneonlyonce,i.e.attheendoftheperiodoronthepaymentdate.Mathematically,
thiscanbeexpressedinthefollowingequation:
SI=Prt

(1)

Where:SI=simpleinterest
P=Principal
r=interestratep.a.
t=time
Sincetheunitoftisoneyear,thefollowingequationmustbeusedifthetisinmonths:
t=

number of months
12

Whereas,ifthetisindays,therearetwomethodswhichcanbeusedindetermining
thevalueoft,i.e.
number of days
365
number of days
2. OrdinaryInterestMethodorSIowhere t =
360

1. ExactInterestMethodorSIewhere t =

Theuseofordinaryinterestmethodwillbenefittheinterestrecipientanddetriment
theinterestpayer.Ontheotherhand,theuseofexactinterestmethodwillbenefitthe
interest payer and detriment the interest recipient. Therefore, in terms of loans
(credits),thebanksprefertheordinaryinterestmethod,whileforsavingsanddeposits,
theyprefertheexactinterestmethodincalculatingtheamountofinterest.
Theordinaryinterestisusedinmoneymarket(discussedinChapter3).Inallparts
ofthisbook,exceptmentionedotherwise,theexactinterestisusedintheexamplesand
problemsgiven,andtheinterestrategivenshouldbereadasinterestrateperannum
p.a.
Example1.1
CalculatetheexactinterestandtheordinaryinterestofacreditofRp.20.000.000
borrowedfor60dayswith8%interestrate.
Answer:
P=Rp.20.000.000
r=8%
t=60days
SI=Prt
60
ExactInterest(SIe) =Rp.20.000.000 8%
=Rp.263.013,70
365

Ordinaryinterest(SIo)=Rp.20.000.000 8%

60
=Rp.266.666,67
360

Example1.2
Mr.AmirsaveshismoneyinBankABCofRp.1.000.000forthreemonthswith12%
interestrate.Calculatetheinterestthathewillreceive.
Answer:
p=1.000.000
r=12%
t=3/12=0.25
SI =Prt
=Rp.1.000.000 12% 0.25
=Rp.30.000
Example1.3
CalculatetheinterestpaidfromabondwithanominalvalueofRp.100.000.000and
15%interestrate,iftheinterestpaymentismadeverysixmonths.
Answer:
P=1.000.000
r=15%
6
t=
=0.5
12
SI =Prt
=Rp.100.000.000 15% 0.5
=Rp.7.500.000
Example1.4
AnewlywedcoupleappliesforahousingcreditofRp.100.000.000withtheeffective
interest rate of 15% p.a., the monthly installment is Rp. 2.000.000. For the first
installment,howmuchistheinterestandtheprincipalwhichshouldbepaid?
Answer:
P=Rp.100.000.000
Installment=Rp.2.000.000
r=15%
1
t=
12
SI =Prt
1
=Rp.100.000.000 15%
12
=Rp.1.250.000
Therefore,theprincipalpaymentforthefirstinstallmentisRp.750.000.

1.3.

MANIPULATIONOFTHESIMPLEINTERESTEQUATION

ByusingEquation(1),wecanalsocalculatetheamountofprincipal,interestrate,or
time,iftheothervariablesareknown.IfSI=Prt,thus:
SI
RT
SI
r=
Pt
P=

And t =

(2)
(3)
SI
Pr

(4)

Example1.5
Afterborrowingsomemoneyfor73days,Mrs.TinasettlesthecreditinterestofRp.
2.880.000.HowmuchwastheamountofMrs.Tinascreditifthesimpleinterestrate
is18%p.a.?
Answer:
r=18%
73
t=
365
SI=Rp.2.880.000
SI
P=
RT
Rp.2.880.000
= Rp.80.000.000
73
=
18%
365
Example1.6
AloansharkoffersacreditofRp.1.000.000thatshouldbesettledwithinonemonthof
Rp.1.250.000.Howmuchistheannualsimpleinterestratesetonthatcredit?
Answer:
P=Rp.1.000.000
SI=Rp.1.250.000Rp.1.000.000=Rp.250.000
1
t=
12
SI
r=
Pt
Rp.250.000
=
1
Rp.1.000.000
12
=3or300%p.a.
Example1.7
IfAntodepositsRp.20.000.000inabankthatgivessimpleinterestrateof15%p.a.,
howlongwillittaketoresultinaninterestofRp.1.000.000?
Answer:
P=Rp.20.000.000
SI=Rp.1.000.000

r=15%
SI
t=
Pr
=

Rp.1.000.000
Rp.20.000.000 15%

1
yearor4months
3

IfSisthefinalvalueortotalofprincipalandinterestamount,then:
S=P+I
S=P+Prt
S=P(1+rt)

(5)

IsS,randtgivenandPisthequestion,then:
P=

S
(1 + rt )

P = S (1 + rt )

(6)

Factor (1 + rt ) 1 intheaboveequationisalsoknownasthediscountfactorbyusing
simpleinterest,andtheprocessincalculatingthePiswidelyusedinpromissorynotes,
NonnegotiableCertificatesofDeposits,CertificatesofBankofIndonesia(SBI)and
knownasdiscountedsimpleinterest.
Example1.8
Mr.KartadepositsRp.3.000.000inasavingsaccountpaying12%simpleinterest.
Howmuchisthebalanceofhisaccountafterthreemonths?
Answer:
P=Rp.3.000.000
r=12%
3
t=
= 0.25
12
S=P(1+rt)
=Rp.3.000.000(1+12% 0.25)
=Rp.3.090.000
Example1.9.
AisyahborrowsRp.10.000.000for146daysat15%simpleinterest.Howmuchshould
shepayattheendoftheperiod?
Answer:
P=Rp.10.000.000
r=15%
t=146days
S=P(1+rt)

=Rp.10.000.000(1+15%

146
)=Rp.10.600.000
365

Example1.10.
Anamountofmoneydepositedwith9%simpleinterestwillbecomeRp.5.000.000
aftersixmonths.Whatistheoriginalamount?
Answer:
S=Rp.5.000.000
r=9%
6
t=
= 0.5
12
S
P=
(1 + rt )
Rp.5.000.000
=
(1 + ( 9% 0.5) )
=Rp.4.784.689

1.4.

CALCULATINGTHENUMBEROFDAYS

Therearetwomethodsthatcanbeusedincalculatingthenumberofdaysbetweentwo
calendardates.Thefirstmethodisbycalculatingthetotaldayspermonthandthen
sumupthetotalamount.
Example1.11
Calculatethenumberofdaysbetween11Juneand3November.
Answer:
Thetotalremainingdaysin June =19days(3011)
July =31
August =31
Sept =30
Oct
=31
Nov =3
Total =145days
Example1.12
Calculatethenumberofdaysbetween15Januaryand22June.
Answer:
Thetotalremainingdaysin January
=16days(3115)
February
=28*
March
=31
April
=30
May
=31
June
=22
Total
=158days

*ThenumberofdaysforFebruaryis29daysinaleapyear,i.e.ayearwhichcanbe
dividedby4.

Example1.13
Apromissorynotewithperiodof90daysisissuedon1March2004.Whatisthedue
dateofthatpromissorynote?
Answer:
Thetotalremainingdaysin March =30(311)
April =30
May =30
Total =90
Therefore,theduedateis30May2004.
Table1.1.DaySequenceNumber
Date Jan

Feb

Mar

Apr

May June July Aug Sept

Oct

Nov

Dec Date

1
2
3
4
5

1
2
3
4
5

32
33
34
35
36

60
61
62
63
64

91
92
93
94
95

121
122
123
124
125

152
153
154
155
156

182
183
184
185
186

213
214
215
216
217

244
245
246
247
248

274
275
276
277
278

305
306
307
308
309

335
336
337
338
339

1
2
3
4
5

6
7
8
9
10

6
7
8
9
10

37
38
39
40
41

65
66
67
68
69

96
97
98
99
100

126
127
128
129
130

157
158
159
160
161

187
188
189
190
191

218
219
220
221
222

249
250
251
252
253

279
280
281
282
283

310
311
312
313
314

340
341
342
343
344

6
7
8
9
10

11
12
13
14
15

11
12
13
14
15

42
43
44
45
46

70
71
72
73
74

101
102
103
104
105

131
132
133
134
135

162
163
164
165
166

192
193
194
195
196

223
224
225
226
227

254
255
256
257
258

284
285
286
287
288

315
316
317
318
319

345
346
347
348
349

11
12
13
14
15

16
17
18
19
20

16
17
18
19
20

47
48
49
50
51

75
76
77
78
79

106
107
108
109
110

136
137
138
139
140

167
168
169
170
171

197
198
199
200
201

228
229
230
231
232

259
260
261
262
263

289
290
291
292
293

320
321
322
323
324

350
351
352
353
354

16
17
18
19
20

21
22
23
24
25

21
22
23
24
25

52
53
54
55
56

80
81
82
83
84

111
112
113
114
115

141
142
143
144
145

172
173
174
175
176

202
203
204
205
206

233
234
235
236
237

264
265
266
267
268

294
295
296
297
298

325
326
327
328
329

355
356
357
358
359

21
22
23
24
25

26
27

26
27

57
58

85
86

116
117

146
147

177
178

207
208

238
239

269
270

299
300

330
331

360
361

26
27

28
29
30

28
29
30

59
*

87
88
89

118
119
120

148
149
150

179
180
181

209
210
211

240
241
242

271
272
273

301
302
303

332
333
334

362
363
364

28
29
30

31

31

90

151

212

243

304

365

31

*Itisthe60 dayinaleapyear
th

ThesecondmethodisbyusingadaysequencenumbertableasshowninTable1.1.
Foraleapyear,donotforgettoadd1foralldatesfrom1Marchuntil31December
sincealeapyearincludes 29Februaryandhasasequencenumberof60.Thus,1
Marchbecomethe61stday,2Marchisthe62nddayandsoon.Therefore,December31
becomesthe366th.
Example1.14.
Calculatethenumberofdaysbetween11June2004and3November2004.
Answer:
3November2004hasasequencenumberof
307
11June2004hasasequencenumberof
162
145days
Example1.15.
Calculatethenumberofdaysbetween15January2004and22June2004.
Answer:
22June2004hasasequencenumberof
174(173+1)
15January2004hasasequencenumberof
15
159days
*Year2004isaleapyear,therefore,thesequencenumbershouldbeaddedby1.
Example1.17.
Calculatethenumberofdaysbetween15January2005and22June2005.
Answer:
22June2005hasasequencenumberof
173
15January2005hasasequencenumberof
15
158days

1.5.

PAYMENTWITHINSTALLMENT

Payment in installment is often offered by creditors (merchants or financial


institutions)inordertohelpcustomerswhodonothaveenoughmoneytopaythe
goods(e.g.televisions,refrigerators,washingmachines,houses,etc.).Thecreditors
agrees to receive the down payment at the beginning of the agreement and the
customersmaypaytherestininstallmentbasedonagreedinterestrateandperiodof
time.
Inpractice,theinterestrateusedincalculatingtheamountofeachinstallmentis
calledflatinterestrate.

Example1.17.
AmerchantsellsatelevisionofRp.10.000.000toMr.Abdi.Mr.Abdipaysadown
paymentofRp.2.000.000andpromisestopaytherestoverfivemonthswiththesame
amountofinstallmentattheendofeachmonthandat10%simpleinterest.Calculate
theamountofeachinstallment.
Answer:
P=Rp.8.000.000(Rp.10.000.000Rp.2.000.000)
r=10%=0.1
5
t=
12
S=P(1+rt)

5
= Rp.8.000.0001 + 0.1
12

=Rp.8.333.333,33
Theamountofinstallmentforeachmonthis:
S
Rp.8.333.333,33
=
= Rp.1.666.666,67
5
5
Example1.18.
Mrs.SiskaborrowsRp.70.000.000fromParamitaBank.Shepromisestopaybackthe
loanwithin20monthsbypayingtheinstallmentofRp.3.850.000eachmonth.Whatis
thesimpleinterestrateforthisloan?
Answer:
Totalpayment
=20 Rp.3.850.000 =Rp.77.000.000
Totalcredit
=
=Rp.70.000.000
Totalinterestexpense=
=Rp.7.000.000
P=Rp.70.000.000
SI=Rp.7.000.000
20 5
t=
=
12 3
SI
r=
Pt
Rp.7.000.000
5
=
Rp.70.000.000
3
=6%p.a.

CHAPTER1EXERCISES
1.

Calculatethenumberdaysbetween19Septemberand4October2005.

2.

Calculatetheexactinterest(SIe)andtheordinaryinterest(SIo)ofcreditofRp.
1.400.000for90dayswith7%simpleinterest.

3.

CalculatetheSimpleInterest(SI)foracreditofRp.4.000.000for3yearswith
8%simpleinterest.

4.

HowlongdoyouhavetoleaveRp.1.200.000inanaccountinordertohavean
interestofRp.240.000,ifthesimpleinterestrteis5%p.a.?

5.

HowmuchshouldyouinvesttodaytobecomeRp.30.000.000within5yearsif
thesimpleinterestrateis12%p.a.?

6.

AmerchantoffersacreitofRp.5.000.000whichshouldbesettledwithintwo
monthsofRp.6.500.000.Whatistheannualsimpleinterestrateappliedonthat
credit?

7.

Mr.AditiabuysaSamsonsthreedoorrefrigeratorfromanelectronicstoreat
Rp.14.500.000.HepaysadownpaymentofRp.2.500.000andpromisestopaythe
restoverfivemonthswiththesameamountofinstallmentattheendofeachmonth
andat12%simpleinterest.Calculatetheamountofeachinstallment.

8.

Afterborrowingsomemoneyfor30days,AdipaysbackthecreditofRp.
2.000.000.Iftheinterestrateis9%p.a.andtheamountofRp.2.000.000already
includestheinterest,howmuchistheprincipalandwhatistheinterestrate?

9.

Whenanamountofmoneyisinvestedwiththesimpleinterestrateof8%p.a.,
itwillbecomeRp.90.000.000.Ifthesimpleinterestrateis10%p.a.,themoney
willbecomeRp.105.000.000.
a. Howmuchistheinvestment?
b. Howlongistheinvestmentperiod?

10.

Mrs. Timon has two deposit accounts. The first deposit account is Rp.
7.200.000withthesimpleinterestrateof9%p.a.,andtheseconddepositaccount
isRp.7.800.000withthesimpleinterestrateof7%.Calculatetheaverage
interestratereceivedbyMrs.Timonfrombothdepositaccountsaftersavingthe
moneyforoneyear.

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