Question #52690

Use terms for direction and timing to characterize the movement of the nominal interest rate over the macroeconomic cycle. Detail you explanation by reference to the Keynesian transmission mechanism. Your explanation should involve two graphs: one graph for the money market (the FED & Wall-Street) and one graph for the capital goods market (Main-Street Investment). You may begin by assuming that the economy has just gone into a recession.

Expert's answer

The interest rate cycle is closely related to the economic or trade cycle. It is the idea that interest rates increase when economic growth inflation increase. When the economy slows down and inflation falls, interest rates are cut to try to boost demand and economic growth.For example, if the economy is growing rapidly and inflation is increasing. The Central Bank may increase interest rates to reduce the rate of growth and keep inflation on target. Higher interest rates increase borrowing costs and lead to slower consumer spending and investment. This moderates the rate of economic growth and keeps inflation on target.

When growth falls, the Central Bank cut interest rates to boost demand and spending.

Therefore, the interest rate cycle is roughly related to economic growth. Low growth leads to low interest rates. Higher growth leads to

higher interest rates.

When growth falls, the Central Bank cut interest rates to boost demand and spending.

Therefore, the interest rate cycle is roughly related to economic growth. Low growth leads to low interest rates. Higher growth leads to

higher interest rates.

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