Question

Discuss the relationship between the nominal interest rate and the inflation rate. What are the impacts of these on the economy?

Answer 1

Interest rate and inflation are interrelated each other. The term inflation refers tom the rate at which the rise in price of goods and service took place. The inflation and the interest rate generally has a inverse relationship. As the inflation rate decreases the growth of economy increases. When the interest rate comes down in an economy the amount of money borrowed by the people increases. People spend more though they have enough amount of money with them. And finally it leads to increase in inflation rate. On the other hand, when the interest increases consumers will save more money. Thereby the inflation rate also decreases.

When the interest rate becomes low the economy starts growing. Here people will be more willing to borrow money for making huge purchases.  Whereas, the increase in interest rates will leads to moderate growth in the economy. It also increases cost of borrowing, and decreases the income of customers. It gradually tends to limited economic growth due to reduce consumer spending. Inflation will make the economy stronger. But if the inflation remains unchecked it gradually leads to the loss of purchasing power. The value of currency will increase in an economy when the interest rate is higher. The unemployment rate in the eco0my will increase as a result of high interest rates.