In the context of introduction to economics, a high interest rate environment will have which of the following effects?

• A. It tends to decrease consumer borrowing and spending.
• B. It generally leads to higher levels of inflation.
• C. It increases the supply of money in the economy.
• D. It encourages businesses to invest more in capital projects.

Answer: (A)

Verified step by step guidance

1. Understand the role of interest rates in the economy: Interest rates represent the cost of borrowing money. When interest rates are high, borrowing becomes more expensive for consumers and businesses.
2. Analyze the effect on consumer borrowing and spending: Higher interest rates increase the cost of loans (like credit cards, mortgages, and personal loans), which tends to discourage consumers from borrowing and spending as much.
3. Consider the impact on inflation: Typically, higher interest rates reduce spending and borrowing, which can lower demand in the economy and thus help reduce inflation, not increase it.
4. Examine the money supply: Central banks control the money supply, but higher interest rates usually signal tighter monetary policy, which tends to decrease the money supply rather than increase it.
5. Evaluate business investment decisions: Higher interest rates raise the cost of financing capital projects, so businesses are generally less likely to invest more when interest rates are high.