Question

suppose a new process was developed that could be used to make oil out of seawater. The equipment required would be quite expensive but would, in time, lead to very low prices for gasoline, electricity, and other types of energy. What effect would this development have on interest rate

Answer 1

It's hard to say definitively what the impact would be because the answer depends on how much gasoline costs affect overall inflation, but we can say in what direction this technology would push interest rates, all other things being equal. First, it's important to understand that interest rates vary depending on inflation, or the rate at which money becomes less valuable. Because the technology is quite expensive in the short run, a lot of borrowing may be necessary to develop it. Even if that were not the case, the cost to develop the technology would be reflected in prices throughout the economy, so the pressure would be inflationary. More inflation causes higher interest rates. However, in the long run, the technology causes gasoline prices to go down (and demand for loans to go down with it). Because so many goods in our economy have to be moved or produced or both using electricity, or gasoline, or oil, the prices for everything would likely go down as the cost of these goods went down. Then the impact would be deflationary. Lower inflation rates lead to lower interest rates.