A firm can borrow at fixed AA rates plus 1% for long-term loans.If it swaps its long-term payments so that it receives the fixed AA rate and pays a AA floating rate,what is the rate of interest on its borrowing if the floating rate is r%?
A)r + 1%
B)r - 1%
C)r%
D)1%
E)2%

Question

Quizplus · Accepted Answer

The firm initially borrows at a fixed rate of AA + 1%. By entering into a swap, it receives the fixed AA rate and pays the floating rate r%. Thus, the net interest rate it pays is the floating rate r% plus the 1% premium over the AA rate.

A Firm Can Borrow at Fixed AA Rates Plus 1