What impact does a trade deficit have on interest rates?

Question

What impact does a trade deficit have on interest rates?

Answer 1

Theoretically, it pushes them up because when there is a trade deficit, it must be financed by loans from foreigners, so a trade deficit increases the demand for loans from foreigners, which raises the interest rate.

Answer 2

The impact of a trade deficit is a rich source of debate amoung economists. The seriousness of a trade deficit problem or even whether it is a problem is much disputed by economists. My old university professor always argued that the preoccupation with deficits is a hangover from the days when exchange rates were fixed. Under a floating exchange rate, the external balance of the economy is largely a matter for the market to influence. There are many examples of trade deficits having little or no influence in increasing interest rates but in some cases they have made an impact. In Australia in the early 90's for example. In the Australian example interest rates actually decreased during periods of increasing foreign debt.