How does increasing interest rate help ease inflation rate?

Question

PS: This is inspired by Ayiza's earlier question on 100 base points....

If I have had 50 to spare and now should take half of that to pay a hiked interest on my bond, how does that encourage the culture of saving?

Answer 1

I will try to give a simple explanation. People are using borrowed money to buy luxury items. When interest rates are low they don't care what they pay for certain products. Demand rise, Prices go up, Inflation goes up.

To answer your second question, If you have to spend 50%+ of your disposable income on debt, you simply have to much debt.

You can also save by paying less interest, for instance KILL CREDIT CARD DEBT first, then clothing and other accounts finally your overdraft. If you have to borrow against your home to cover the above mentioned,  its not a bad thing. You will eventually be able to put extra money into your bond and other savings mediums.

Answer 2

I think it forces people to stop making debt any where else, house debt is good debt, but all other debt is bad debt, so it forces people to stop spending and to look after one of the most important things ie their houses.

Answer 3

Zim - I'm not sure that it does, the thinking behind it is as follows:

Increased interest rate is supposed to appreciate our currency.

Increasing interest rates thereby curbing demand will increase surplus and therefore appreciate our currency

Increasing interest rates is also supposed to deflate expected producer price inflation therby appreciating our currency.

But an offsetting inflationary effect from weaker 3 - year growth in South Africa relative to other industrial countries - suggests negative effects on growth from higher interest rates.

In summary:

I think Tito should realise that hiking the rates is not working and other alternatives should be explored.

Add:

It doesn't encourage a culture of saving - if anything it should encourage people to avoid taking on debt.