Inflation & Interest Rates

Question 1

What is inflation?

Answer 1

The rate at which the general price level of goods and services rises over time, decreasing purchasing power.

Question 2

How is inflation measured?

Answer 2

By indices like the Consumer Price Index (CPI) and the Producer Price Index (PPI).

Question 3

What is demand-pull inflation?

Answer 3

Inflation that occurs when demand exceeds supply, driving prices up.

Question 4

What is cost-push inflation?

Answer 4

Inflation caused by rising production costs, leading businesses to increase prices.

Question 5

What is built-in inflation (wage-price spiral)?

Answer 5

A cycle where rising wages lead to higher production costs, causing prices to increase.

Question 6

What is creeping inflation?

Answer 6

A slow, steady increase in prices, often around 1-3% annually.

Question 7

What is galloping inflation?

Answer 7

Rapid inflation with double-digit increases annually, causing economic instability.

Question 8

What is hyperinflation?

Answer 8

Extremely high inflation, typically over 50% per month, leading to economic disruption.

Question 9

What is deflation?

Answer 9

A decrease in the general price level over time, increasing purchasing power but possibly indicating a downturn.

Question 10

What are the effects of inflation on purchasing power?

Answer 10

Inflation reduces purchasing power, making each unit of currency buy fewer goods and services.

Question 11

What are interest rates?

Answer 11

The cost of borrowing money, expressed as a percentage of the loan amount.

Question 12

What is the difference between nominal and real interest rates?

Answer 12

Nominal rate is the stated rate without inflation adjustment; real rate is adjusted for inflation.

Question 13

How do central banks influence interest rates?

Answer 13

Through setting benchmark rates, which affect overall interest rates in the economy.

Question 14

What is a fixed interest rate?

Answer 14

An interest rate that remains constant over the life of the loan.

Question 15

What is a variable interest rate?

Answer 15

An interest rate that fluctuates over time, often tied to a benchmark rate.

Question 16

How do interest rates impact borrowing?

Answer 16

Higher rates make borrowing more expensive, potentially reducing spending; lower rates make borrowing cheaper, stimulating spending.

Question 17

What effect do high interest rates have on savings?

Answer 17

High rates encourage saving by increasing returns on savings accounts and fixed-income investments.

Question 18

What is the Fisher Effect?

Answer 18

The concept that nominal interest rate is equal to the real interest rate plus expected inflation.

Question 19

How does expected inflation affect nominal interest rates?

Answer 19

Lenders increase nominal rates to maintain real returns if inflation is expected to rise.

Question 20

How do central banks use interest rates to manage inflation?

Answer 20

By raising rates to reduce spending and cool down inflation or lowering rates to stimulate spending.

Question 21

What is the impact of central banks’ open market operations on interest rates?

Answer 21

Buying securities increases money supply, lowering rates; selling reduces supply, raising rates.

Question 22

What are inflation-indexed bonds?

Answer 22

Bonds that adjust interest payments according to inflation, protecting purchasing power.

Question 23

How does inflation affect fixed-income investments?

Answer 23

Rising inflation erodes the real value of fixed-income returns as purchasing power decreases.

Question 24

Why might investors favor short-term bonds during inflation?

Answer 24

Short-term bonds are less sensitive to inflation-related losses compared to long-term bonds.