Lending and borrowing constraints

Borrowing money today affects the amount of money available to you in the future.

Say that you want to borrow $50 to buy new shoes. You take a loan with a 10% annual interest rate to be paid back a year from now.

While your ability to consume has increased right now, you have to consume less in the future. Why?

In a year from now, you have to pay back the $50 that you borrowed plus $5 in interest. If you make $100 in the future, you will then have only $45 left to spend.

If the rate were 20%, you would have to pay back the $50 principal plus $10 interest.

Higher interest rates make it more expensive to borrow.
Lower interest rates make it less expensive to borrow.

How to pay back a loan

Decide how much you want to borrow ($B$). Let’s say for this example it is $50.
Look at the interest rate ($r$). For this example, the interest rate is 10%.
Calculate the total amount you will need to pay back given the amount borrowed and the interest rate.

\[\text{Total amount} = B + Br = B(1 + r)\]

Steps

Expand here to see how to pay back a loan.

Enter the amount you want to borrow $B$:
Enter the interest rate $r$ as a decimal:
Calculated amount to pay back: $B(1 + r)$:

Exercise

Suppose you expect to have $840 in your bank account in one year. What is the maximum amount you can afford to borrow right now at a 20% interest rate?

$1,008
$1,000
$700
$600

If r = 20% and we expect to have $840 in the future, we can only borrow $700 at most.
If r = 20% and we expect to have $840 in the future, we can only borrow $700 at most.
If r = 20% and we expect to have $840 in the future, we can only borrow $700 at most.