Cost of Money

Cost of money is a concept tightly coupled to inflation. In effect it can be interpreted in two ways.

Model 1
Either it can be viewed as the amount by how much your money depreciates in value over time.

Model 2
Or it can be seen as the amount it costs you to borrow a certain amount of money for a given time, which is in effect the interest that you pay.


So if inflation sits at around 5% for want of a nominal figure, then you can buy 5% less with your money after a year. Your money costs you 5% per year in this case. By this I mean that just keeping the money for a year and not spending it or investing it will mean you have in effect 5% less after a year. So it has essentially cost you 5% for the privilege of just letting the money lie around for that time.

Alternatively the other metric one can apply to cost of money, is your overdraft or borrowing rate. My bond costs me around 9% per annum. If I had a Rk100 lying around and didn't put it in my bond, I would have to pay an extra Rk9 in that year in interest charges. So if your major expense is your bond, the cost of money is your bond rate.

Let's imagine that you put down a deposit of Rk100 on a property in a new development. Let's assume that the transfer will only take effect in a year's time. In this case, you have tied up Rk100 for a year. You could either have invested the Rk100 elsewhere at say 8% or put it into your existing bond (if you have one) at 9%.

Thus, tying up the Rk100 for a year will have cost you either the 8% or the 9% depending on your particular circumstances.

If you liked this article you may find these property and finance articles interesting as well.

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