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Economics Essays

Interest rates have been relatively low in the UK since the financial crisis in 2008 but have lately been on the rise as the Bank of England recently increased the base rate from 0.5% to 0.75%. One impact of a rise in interest rates could be that loans become more expensive for firms; this could result in a fall in loans. Consequently, investment is likely to fall as loans are a common source of finance for large investment projects. Investment is a component of aggregate demand and if investment falls then AD will shift left resulting in a lower output level. Thus, less employees will be needed to satisfy this reduced output level resulting in a fall in employment. Another effect of a rise in interest rates could be an increase in the value of the pound. This is due to investors increasing the demand for pounds as holding pounds in British banks becomes more profitable. If the pound increases in value, exports will become more expensive for consumers outside of the UK. Imports will also become cheaper for individuals within the UK. As exports positively affect aggregate demand and imports negatively effect aggregate demand then the result would be a fall in AD. This could cause a fall inflation and ultimately deflation. If deflation occurs individuals are likely to delay purchases, hence firms profits will fall. This would arguably result in firms having to employ less staff or to lay off existing staff leading to a fall in employment.