Suppose the borrowing rate rB=10% compounded annually. However, the lending rate (or equivalently, the interest rate on deposits
) is only 8% compounded annually. Compute the difference between the upper and lower bounds on the price of an perpetuity that pays A=10,000\$ per year.
From the question, we are told that the borrowing rate rB=10% compounded annually and the lending rate (or equivalently, the interest rate on deposits) is only 8% compounded annually.
The upper bounds on the price of an perpetuity that pays $10,000 per year will be:
= $10,000/10%
= $10,000/0.1
= $100,000
The lower bounds on the price of an perpetuity that pays $10,000 per year will be:
= $10,000/8%
= $10,000/0.08
= $125,000
The difference between the upper and lower bounds will now be:
