What is paid to a lender for the use of his money and includes compensation to the lender for three factors: 1) Time value of money (lender's rate)the value of today's dollar is more than tomorrow's dollar. Tomorrow's dollars are discounted to reflect the time a lender must wait to "enjoy" the money, not to mention the uncertainties tomorrow brings. 2) Credit riskthe risk of repayment varies with the creditworthiness of the borrower. 3) Inflationas the purchasing power of a dollar declines, more dollars must be repaid to maintain the same purchasing power.
Interest is one of the components of carrying charges; i.e., the cost of the money needed to finance the commodity's purchase or storage. The market rate of interest can also be used to establish an opportunity cost for the funds that are tied up in any investment.