Some accuse the banks of their wish to enrich at the cost of customers’ illiteracy, others – of unskilled workers and banks’ unreadiness to implement the calculations in practice efficiently.
But there are also the other people. The naïve ones. These are those who think their financial preparation and printout of credit charges from the bank are enough to calculate the real credit cost. I feel the most pity about these people.
In order not to go too far, I had to take the most concrete and painful for both sides (a bank and a borrower) example – the calculation of efficient rate for a credit card.
After small discussion on this topic with one of our readers I understood there is an actual necessity to explain the difference between efficient rate and rise in cost of the product.
In order to make the credit more attractive in the eyes of consumers, the banks often show not the efficient rate but rise in product price which is always significantly lower. And naïve borrowers think that it is exactly the real credit cost. What is the difference then?
Efficient rate is calculated as ratio of all borrower’s expenses on credit service to weighted average credit cost.
Rise in product cost is ration of credit expenses to the initial credit amount.
Even a schoolchild understands that is the credit during all term of use is paid the average credit sum will always be less than the initial one. Which means that dividend in both cases will be the same (credit expenses), but deviser for calculation of rise in product cost will be almost two times bigger, which allows to receive less quotient, and it is widely used at the banks.
Let’s take as an example the credit calculation of which was kindly suggested being done by one of our readers, although these are far from the best conditions as we can see from our rating.
Problem specification:
Product – credit card
Maximal credit amount – 7 000 hryvnyas (it will be taken into account)
Interest rate – 3% monthly (or 36% annually)
Credit term – 12 months
Paying the credit – in equal parts
Problem solution:
| Month | Number of days in month | Credit amount | Interest rate sum |
| 1 | 31 | 7 000 | 214 |
| 2 | 28 | 6 417 | 177 |
| 3 | 31 | 5 833 | 178 |
| 4 | 30 | 5 250 | 155 |
| 5 | 31 | 4 667 | 143 |
| 6 | 30 | 4 083 | 121 |
| 7 | 31 | 3 500 | 107 |
| 8 | 31 | 2 917 | 89 |
| 9 | 30 | 2 333 | 69 |
| 10 | 31 | 1 750 | 54 |
| 11 | 30 | 1 167 | 35 |
| 12 | 31 | 583 | 18 |
| Total | 365 | - | 1 360 |
Expenses for the term of using the card under the condition of paying the credit in equal parts during one year will be 1 360 hryvnyas.
Weighted average credit amount is 3 776 hryvnyas.
Total: efficient credit rate is 36% annually (1360/3777)
Rise in cost is 19.4% (1360/7000)
Fascinating, isn’t it? :)
Now the plot thickens.
By its regulation #168 of 10.05.07 the National bank obliged the banks to open their efficient rate to the customers. But, unfortunately, it didn’t explain what to do with calculation of the rates for credit cards. As the most of questions concern them precisely: how can schedule of credit payments be made if it is not known beforehand when and how its owner will be using the credit limit?
It turns out that the bank must calculate the efficient rate on the assumption that the borrower has used all given credit limit at a time, and is paying the debt either in equal parts or giving minimal monthly payment fixed in the contract (see our Example). But it contradicts the nature of a credit card which is often just the means of ‘catching’ the missing sum for comparatively short term. And if there is a grace period for the card during which the customer may not pay anything, then what? I will dare to suggest that the banks calculated also minimal possible efficient rate.
In our case the grace period for the credit card is 30 days, and monthly credit payment amount is 7% (but not less than 50 hryvnyas). The interest rate during the period of grace use under the condition that with the card the owner will pay in distribution network is 0.01%. Let’s suppose the owner had used the grace period to the fullest one time a month during one year.
| Month | Number of days in month | Credit amount | Grace period | Interest amount |
| 1 | 31 | 7 000 | 30 | 7 |
| 2 | 28 | 6 417 | 28 | 0 |
| 3 | 31 | 5 833 | 30 | 6 |
| 4 | 30 | 5 250 | 30 | 0 |
| 5 | 31 | 4 667 | 30 | 5 |
| 6 | 30 | 4 083 | 30 | 0 |
| 7 | 31 | 3 500 | 30 | 3 |
| 8 | 31 | 2 917 | 30 | 3 |
| 9 | 30 | 2 333 | 30 | 0 |
| 10 | 31 | 1 750 | 30 | 2 |
| 11 | 30 | 1 167 | 30 | 0 |
| 12 | 31 | 583 | 30 | 1 |
| Total | 365 | - | 26 |
Total: efficient credit rate is 0.7% annually (26/3776) against 36% annually in case of using card credit like the common one.
Conclusion: as you might have already guessed the financial literacy is a sometimes complicated but definitely very useful thing. Because if you master it to a considerable degree, it will influence positively your financial stability, and even good night sleep and healthy nerves.
I wish you all making right decisions!
