Mini Literature Review

Inflation and Interest Rate Impact on a Country's Economy

Presented to Dr. Rehab Saied Prepared by

Sandra Saad
Eslsca University
26/04/2023
Inflation and interest rates are two of the most important economic indicators
that have a major impact on a country's economy. These factors have been
widely studied in economic works due to their critical role in shaping
macroeconomic outcomes. This literature review provides an overview of the
key conclusions from practical studies on the impact of inflation and interest
rates on economic growth, employment, and investment.
Inflation is a key indicator of economic health, as it can have a direct impact
on the purchasing power of consumers. When inflation is high, the cost of
goods and services increases, which can lead to a decrease in consumer
spending, lower demand for goods and services, and a decrease in economic
growth (Friedman, 1970). Additionally, high inflation can lead to an increase
in unemployment, as businesses may not be able to afford to hire new
workers (Blanchard & Fischer, 1989). Moreover, high inflation can
affect foreign investment, as it reduces the attractiveness of a country's
currency, leading to a decrease in foreign investment (Sarno & Taylor, 2002).
On the other hand, interest rates impact the economy by affecting the
consumption and savings behavior of individuals and businesses. As interest
rates decrease, businesses and consumers are more likely to borrow money,
which can lead to increased investment and spending (Bernanke & Gertler,
1995). This can lead to an increase in economic growth, as businesses are
able to expand and hire more workers. Moreover, low interest rates can lead
to an increase in consumer spending, as people are more likely to purchase
goods and services when borrowing costs are low (Taylor, 1993).
As interest rates increase, the cost of borrowing money becomes more
expensive, resulting in decreased consumer spending and a decrease in
investments by businesses. This can lead to a decrease in economic growth,
and an increase in unemployment as businesses may not be able to afford to
hire new workers (Krugman & Obstfeld, 2009). However, high interest rates
can help reduce inflation by decreasing the demand for goods and services,
consequently lowering prices (Mishkin, 1997).
In conclusion, inflation and interest rates are critical factors that have a
significant impact on a country's economy, as proved by practical studies.
High inflation can lead to a decrease in economic growth and investment,
while low interest rates can lead to an increase in economic growth and
investment. Governments and central banks need to monitor these indicators
and take suitable action to ensure that the economy remains healthy.
References:
 Bernanke, B. S., & Gertler, M. (1995). Inside the black box: The credit channel of
monetary policy transmission. Journal of Economic Perspectives, 9(4), 27-48.
 Blanchard, O. J., & Fischer, S. (1989). Lectures on macroeconomics. MIT Press.
 Friedman, M. (1970). The counter-revolution in monetary theory. Institute of Economic
Affairs.
 Krugman, P., & Obstfeld, M. (2009). International economics: theory and policy. Pearson
Education.
 Mishkin, F. S. (1997). The economics of money, banking, and financial markets. Addison-
Wesley Longman.
 Sarno, L., & Taylor, M. P. (2002). The economics of exchange rates. Cambridge
University Press.
 Taylor, J. B. (1993). Discretion versus policy rules in practice. Carnegie-Rochester
Conference Series on Public Policy, 39, 195-214.
Thank You