How Does Inflation Affect Interest Rates?

Inflation is the increase in the general price level of goods and services in an economy and this will result in lower demand for goods and services.

The government uses interest rates to control inflation in the economy.

When inflation is to be reduced, interest rates are increased. The effect of a rise in interest rate is that the cost of loan rises and it makes loans expensive, which will lead to a lower supply of money.

On the other hand, when inflation decreases, the rate of interest also decreases which leads to the cost of loans getting inexpensive. This will lead to an increase in borrowing coupled with money supply. In such a scenario where demand of goods increases with supply remaining constant, price of goods and services increases which means rate of inflation increases.