Explain how higher interest rates can impact the aggregate demand level in an economy and help close an inflationary gap?

Interest Rates changes can impact an economy in different ways. With higher interest rates, consumers are more prone to save (because they get more money in interests) and therefore they consume less. Furthermore, they are less prone to borrow money from banks (it is more expensive to do so) and therefore the investment level falls (as less people are borrowing money to set up businesses). Both Consumption and Investment are components of the Aggregate Demand curve and therefore, when a reduction in these components occurs, the aggregate demand curve will shift to the left, closing the inflationary gap.

Answered by Carlo D. Economics tutor

1460 Views

See similar Economics IB tutors

Related Economics IB answers

All answers ▸

Explain how fiscal policy could be employed to pull an economy out of a recessionary gap


What is the difference between a shift and a movement in the demand (or supply) curve?


How can expansionary fiscal policies support an economy in closing a deflationary/recessionary gap?


Explain the effect of placing an indirect tax on the consumption of fast foods in the UK


We're here to help

contact us iconContact usWhatsapp logoMessage us on Whatsapptelephone icon+44 (0) 203 773 6020
Facebook logoInstagram logoLinkedIn logo
Cookie Preferences