Question

Which of the following factors would be most likely to lead to an increase in interest rates in the economy? a. Households reduce their consumption and increase their savings. b. The Federal Reserve decides to try to stimulate the economy. c. Most businesses decide to modernize and expand their manufacturing capacity, and to install new equipment to reduce labor costs. d. The economy falls into a recession.

Answer 1

Answer:

C. Most businesses decide to modernize and expand their manufacturing capacity, and to install new equipments to reduce labor cost

Explanation:

Interest rate is the cost attached to borrowed money. It is also the return for the risk of lending.

Businesses borrow to make profit in the future. They also borrow to finance the purchase of equipments. The interest on these loan is what stimulate the economy which encourages people to borrow, lend and spend.

When businesses continue to expand their production capacity and also install new equipment, such will lead to an increase in interest rate in the economy because most industries often times raise credit to finance assets purchase. An increase in demand for money raises interest rate and vice versa.

Other causes of high interest rate in an economy are;

- Inflation, which is the consistent rise in the prices of goods and services as a result of too much money in circulation. The higher the rate of inflation, the higher the interest rate.

-Government, through central bank, issuing directives on the effect of monetary policy on interest rate. This is done through open market operation.

When there is lower interest rate in the economy, amount paid as interest by consumers will be less hence have money to spend. This will also affect business as they will be able to buy equipments and produce more with cheap funds.