Compute the minimum rate of interest

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In each case, assume that you always have the option to keep extra money in the bank at a 10% rate of interest, with no fear of losing any of this money. For each case, calculate the minimum rate of interest, and, therefore, the risk premium, at which you would lend $1000 on the informal market. Suppose yyou are risk-neutral.

a) With probability 1/2 the loan will be repaid with interest, and with probability 1/2 the loan will not be repaid at all.

b) With probability 1/2 the loan will be repaid with interest, and with probability 1/2 only the principal will be repaid.

c) With probability 1/3 the loan will be repaid with interest, with probability 1/3 only the principal will be repaid, and with probability 1/3 the loan will not be repaid at all.

Reference no: EM1358743

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