The real costs of borrowing decrease when expected inflation going up which leads the amount of bonds supply increase, thus the bonds price fall and interest rate increase.when interest rate increase due to a rise in expected inflation, central bank is likely to use monetary policy, for instance, reduce the supply of money to lower the interest rateAccording the decrease in interest rate, the deposits in commercial banks will drop and loan lending will rise correspondingly.Despite the increase in interest rates for the effect of inflation is not necessarily obvious, but as long as our country there is inflationary pressures, rising interest rates sooner or later.
The fischer effect
ir = i – πeAccording to the fisher equation, while the expected inflation increases, the nominal interest rate remain the same, then the real interest rate decreases, so that the real cost of borrowing falls.
China
China’s deposit interest rate response is not sensitive, but if the negative interest rate is too high, people in order to alleviate the damage caused by inflation would be a substantial increase in consumer spending, in 1985 and 1993 occurred as evidenced by panic buying. continued negative interest rates will increase inflationary pressures.On the other hand, China’s interest rates are already at a low level, if there is a certain degree of inflation and interest rates remain unchanged, which means that the company’s products remain unchanged interest costs rising prices, corporate profits will increase, this will stimulate the enthusiasm for business investment, which may lead to inflation.What happens to commercial banks when interest rates move:Interest rates increase:
- Interest earned through loans rises and securities rises.
- Banks will be more willing to making loans, but due to high expense of borrowing, consumers are less willing to take loans.
- Higher interest rate encourages costumers to put more money in the saving account.
- Banks BS net worth will decrease since ppl will deposit more and take less loans.
