ECONOMICS
BUSINESS CYCLES
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Question
[CLICK ON ANY CHOICE TO KNOW THE RIGHT ANSWER]
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Living on a fixed income
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Working at the minimum wage
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Lending money at a fixed interest rate
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Borrowing money at a fixed interest rate
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Saving money in a fixed-interest-rate savings account
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Detailed explanation-1: -Inflation allows borrowers to pay lenders back with money worth less than when it was originally borrowed, which benefits borrowers. When inflation causes higher prices, the demand for credit increases, raising interest rates, which benefits lenders.
Detailed explanation-2: -Unexpected inflation leads to high-risk premiums and economic uncertainty. With higher uncertainty, lenders ask for a premium to compensate for the uncertainty. This leads to higher costs of borrowing, hence reducing economic activity because it discourages investments.
Detailed explanation-3: -Why do borrowers gain when there is unanticipated inflation? Why do lenders lose? Borrowers gain because they pay back their loans with money that has less purchasing power; lender who sell loans at fixed rates lose because they are paid back with money that has less purchasing power.
Detailed explanation-4: -Unexpected deflation benefits lenders but does not affect borrowers. Unexpected inflation benefits borrowers but does not affect lenders.