Question

4. Many people believe that a high interest rate is bad for the economy. Of course, all else equal, a higher interest rate means grater borrowing costs for firms. But a high interest rate is also helpful to some people in the economy.
   • What group of people benefits from a higher interest rate? Explain how they benefit.

A high interest rate can also indicate that something positive is happening in the economy. Describe how positive factors can lead to an increase in the demand for loanable funds and then an increase in the interest rate.

Answer 1

Interest rate explains a rate at which a borrower borrows money at the rate of proportional to the principal amount and that proportional amount has to pay on a regular basis for borrowing. It is the rate of many that a lender gets on his investment in various projects. The high-interest rate has a negative impact on some people at the same time is has a positive impact on other people. People who benefitted from high interest are:

• Savers: Savers are the people who invest their saved money in different projects to get returns. Increase in interest rate increases their returns that encourage them to invest more money.
• Creditors: Creditors are the people to lend money to the needy person and get some amount of money as returns on that money. If interest rate increases, creditors will get extra money on lend money in the economy, and they are benefitted from it.
• Financial institutions: Financial institutions are organizations that provide various financial services to the people. These institutions get benefit from high-interest rate as they lend more money in the economy to earn more profit from their investments.

The high-interest rate in the economy is the cause of increasing economic activities of a country based on various factors that may increase the demand for loanable funds in the market, such as:

• Increase in income: When the income of the people increases, they have more money to consume and save. Increase in savings will encourage people to invest more due to which they demand loanable funds. As a result, an increase in the demand for loanable funds increases the interest rate in the market.
• Future expectations: If people expect interest to decrease in the near future, they demand more loanable funds in the market today due to which interest rate increases.
• Confidence level of investors: If investors are confident towards any investment they will be encouraged to invest their money which increases the demand for loanable funds that further lead to increase the interest rate in the economy.