Final answer:
An increase in the prime rate will lead to a corresponding increase in the interest rate on a variable interest credit card. This higher cost of borrowing can decrease consumer demand for credit and push the market towards an equilibrium interest rate that balances supply and demand for credit funds.
Step-by-step explanation:
When the prime rate increases, the interest rate on a variable interest credit card tied to this prime rate will also increase.
This is because the rate on a variable interest credit card is typically set as the prime rate plus a certain fixed margin. As the prime rate goes up, so does the cost of borrowing for the consumer.
The laws of demand and supply illustrate that as the interest rate rises, the quantity demanded for credit will decrease, meaning consumers will be less inclined to borrow.
If the interest rate is below the equilibrium level, a situation of excess demand or a shortage of funds in the credit market occurs.
In such a scenario, credit card companies might perceive the high demand for borrowing as an opportunity to increase the interest rates or fees.
Ultimately, the market will tend to push the interest rates toward the equilibrium where the quantity of funds that consumers want to borrow matches what the credit card firms are willing to supply.