As treasurer of your firm, you wish to establish a credit line facility to cover an expected average annual borrowing of $65 million. You have asked two banks to submit proposals for a credit line of $80 million. Based on the credit line of $80 million, Bank of the West proposes a nominal rate of 6%, a commitment fee of .25% on the unused portion of the credit line, and a 20% compensating balance on the amount borrowed. Bank of the East offers a rate of 5.75% if the size of the credit line is $95 million. In addition, the commitment fee on the unused portion of the credit line is 20 basis points, and compensating balances of 25% will be required on the amount borrowed.
Calculate the effective cost of both proposals, and indicate which proposal should be accepted.
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