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Homework 4 - 2 Describe how interest rates may adjust to an...

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Homework #4 1. What is meant by the term interest rate, and how is it determined? The basic price that equates the demand for and supply of loanable funds in the financial market is the interest rate. The interest rate clears the market by bringing the demand by borrowers for funds in equilibrium with the supply by lenders of funds. If an unanticipated change or “shock” causes the demand for, or supply of, loanable funds to change, interest rate may move from an equilibrium level.
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Unformatted text preview: 2. Describe how interest rates may adjust to an unanticipated increase in inflation. If an unanticipated increase in inflation, lenders (suppliers) to require a higher rate of interest. But we can’t take into consideration the fact that borrowers also may adjust their demand for loanable funds. If the borrowers cut back on their demand for loadable funds, the new equilibrium rate will be the same to the equilibrium that an unanticipated increase in inflation....
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