The Impact of Federal Funds Rate Adjustments on Unemployment and Inflation- A Comprehensive Analysis
Changes in the federal funds rate affect the unemployment rate in different ways. The federal funds rate is a short-term interest rate that is applied among banks when they borrow loans amongst themselves (Mankiw, 2021). Notably, the federal funds rate is the cost of capital for loans incurred among banks. The rate significantly affects the rate of unemployment through indirect means. Increased federal funds rate results in a corresponding rise in interest rates, which turns banks away from inter-loaning activities. As a result, the business environment will be affected, and businesses will have limited access to borrowing from banks. The limitation will, in turn, deter those businesses from growing and expanding their business activities. Further, this can result in layoffs of employees by firms attempting to minimize their costs, which borrowings could have otherwise offset. The unemployment rate will, thus, rise. It is important to note that the opposite of this assertion is true because if the federal funds rate is reduced, more money will be available for businesses to borrow and advance their growth and expansion activities. As a result, more employment opportunities will be created in the process, pushing the unemployment rate downwards.
The inflation rate will increase in the event of lowering the federal funds rate. Notably, this is so because lowering the federal funds rate will produce a corresponding reduction in interest rate, enabling people and firms to borrow more money (Mankiw, 2021). As a result, more people will have more money to spend on various commodities. Therefore, the demand for commodities will increase, fueling the inflation rate. However, the effect can be reversed by increasing the federal funds rate and thus reducing the inflation rate.
References
Mankiw, N.G. (2021). Principles of Economics. Boston:
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How do changes to the federal funds rate affect the unemployment rate? Explain by using information from the textbook.
The Impact of Federal Funds Rate Adjustments on Unemployment and Inflation- A Comprehensive Analysis
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