""When the CPI is increasing in value, you know that inflation is rising and that the U.S. dollar is becoming worth less. When this happens, the Fed is likely to jump in and raise
interest rates to combat the inflation.
When the CPI is decreasing in value, you know that inflation is declining and that the U.S. dollar is becoming worth more and more. This increase in value is usually the result of a limited supply of U.S. dollars in the marketplace. When this happens, the Fed is likely to jump in and lower interest rates to inspire more borrowing and curb deflation. As the Fed lowers interest rates, the supply of money in the economy increases.""
I found this lines in book = Profiting with forex, Page = 97 - 99 Chapter = 7
can Any One please help me to understand this.
Thanks
Inflation increases = too much money in system ie people spending too much = increase interest rates to soak up the excess (Make it more advantagous to save money rather than spend)
Raising interest rates reduces the amount of money that people are borrowing from banks as banks are being charged more themselves to borrow money from the Fed. It flows into increased credit card rates, mortgage rates, etc. This feeds into consumers’ available disposable income which is in turn reduced which means they have less money to spend on other discretionary stuff. A lower demand for these items translates into lower prices all other things being equal.
This will also affect business profit levels as consumers perhaps buy less of their products. It’ll also affect how they operate and expand as it now becomes more expensive for them to raise money as they typically borrow from banks. That’s all a pretty broad level description though and there’s a lot of factors that all interact to decide what the end result will be.
I think that’s the general thought. But think about the United States today. The interest rates have been hovering near zero for the past 3 years and it couldn’t pump up economic activity. Look at Japan, which had very low rates for the past 2 decades – it’s stock market hasn’t recovered.