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Impact Of Change In Interest Rate


The Fed rate has increased by 25 basis points. RBI has not changed the interestrates for the last 2 years. Are you aware of what it means? Or, how does it impact? If not, this post is for you.

First, let us get the primary modus operandi that gets fulfilled whenever there is an interest rate hike or cut. Why does the government feel the need to raise or cut the interest rates, and what are the objectives that are actually achieved?

It is a fundamental concept of macroeconomics wherein the interest rates are related to many aspects that affect individuals and the economy.

The basic theory is that by cutting down the rates, borrowing cost decreases, which promotes businesses to take loans to expand their business. Similarly, when the economy is booming; inflations are high YOY basis. To control this, the government hiked interest rates. This will increase borrowing costs, thereby controlling business growth, and control higher prices due to monopolistic practices.

Further, interest rates are directly proportional to bond market. When interest rate increases, yields on everything from U.S. Treasuries to corporate bonds increase. Hence, the cost of bonds decreases. This negatively impacts fixed-income investors. As rates rise, people will likely refuse to borrow or re-finance existing debts since it is more expensive.

Now, how do interest rates of other countries impact Indian companies? For instance, the increase in the Fed rate impacts the availability of overseas finance. The increased interest rates in the U.S. lead to the pulling out of global funds from Indian Government Securities. FPIs withdraw money out of the equity and bond markets. This weakens the rupee and the dollar gets more robust with the rate hikes. And thereby, impacting StockMarket.

The relationship between interest rates and the stock market is inverse. When the Fed cuts the interest rates, it causes the stock market to go up and vice versa. However, there is no guarantee whether the markets will react the same way based on this principle. Rising inflation globally will create a path for rate hikes sooner than anticipated, increasing the volatility in the markets.

To conclude, interest rates aren’t just about FixedDeposits or HomeLoans. It directly or indirectly impacts the overall economy, and thereby your business or job.

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