Question

Using the income and price level effects for both money and bonds, explain why interest rates are procyclical (rising when the economy is expanding and falling during recessions)?

Answer 1

Interest rates are procyclical because of the income and price level effects on both money and bonds.

Step-by-step explanation:

The interest rates are procyclical because of the income and price level effects on both money and bonds. As the economy expands, the demand for money and credit increases due to rising prices. This increased demand for money and credit leads to higher interest rates. Higher interest rates, in turn, reduce borrowing by businesses and households, which reduces consumption and investment spending.