Now, that we have introduced non-annual compounding, it is important to take a moment to learn about interest rates. Read Section 5-16. This section describes APRs (these are annual interest rates and this is how we communicate interest rates in finance).

But if rates are communicated annually, but compounding frequencies differ, how can we compare interest rates? For example, an annual rate of 8% compounded semi-annually is different than an annual rate of 7.8% compounded monthly. We can use the Effective Annual Rate (EAR) to compare these two scenarios. Take a look at the EAR formula in section 5-16 and calculate the EAR for the problem below:

7.15% compounded monthly

Remember since this is a formula, the interest rate should be used as a decimal, and convert your answer back to a percentage with two decimals (example 5.25%)