Problem

Continuous Compounding Many banks advertise that they compound interest continuously, mean...

Continuous Compounding Many banks advertise that they compound interest continuously, meaning that the amount of money A(t) in an account satisfies the DE A = rA, where r is the annual interest rate and t is time in years.

(a) Show that an interest rate of 8% compounded continuously gives an effective annual interest rate of 8.329%; that is, the yield is the same at 8% compounded continuously as at 8.329% compounded annually.

(b) Show that an interest rate of r, compounded continuously, gives an effective annual interest rate of er − 1.

(c) Compare the effective annual interest rates for 8% compounded continuously and 8% compounded daily.

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Solutions For Problems in Chapter 2.3