Question

Suppose you go to your local bank, intending to buy a certificate of deposit with your savings. Explain why you would prefer this to offering a loan, at an interest rate that is higher than the rate the bank pays on certificates of deposit (but lower than the rate the bank charges for car loans), to the next individual who enters the bank and applies for a car loan.

Short answer

Instead of purchasing a certificate of deposit, it is preferable to provide the individual a car loan.

Step-by-step solution

Introduction

A certificate of deposit is a document that the bank issues to the person who deposits money in the bank.

The certificate of deposit specifies the rate of interest and the term.

Explanation

The bank charges a greater rate of interest on loans and a lower rate of interest on deposits.

As a result, rather of purchasing a certificate of deposit, it is preferable to provide the individual a car loan.

A person can receive a larger return on investment in this manner.

The profit earned by banks is determined by the differential in interest rates on loans and deposits.