Why do central banks like the Bangko Sentral ng Pilipinas (BSP) raise interest rates during inflation, and how does it help control rising prices?
Answer (1)
When inflation rises too quickly, central banks like the Bangko Sentral ng Pilipinas (BSP) often raise interest rates as a way to slow it down. But how does this work?Higher interest rates make borrowing money more expensive. For example, if the BSP increases its policy rate, banks will also raise their rates for car loans, house loans, or credit card debt. This discourages people and businesses from borrowing and spending. When spending goes down, demand for goods and services falls, and this helps stop prices from rising too fast.In the Philippines, one example happened in 2022–2023 when inflation increased due to global fuel prices and food supply issues. The BSP raised interest rates multiple times to keep inflation under control. This made it harder for people to borrow, but it was necessary to stop prices from rising too quickly.Higher interest rates also encourage people to save money instead of spending it. If banks offer better returns, more people keep their money in savings accounts or time deposits. Less money in circulation means less spending, and that helps lower demand and inflation pressure.At the same time, these higher rates signal confidence. If investors and business owners see the BSP acting decisively, they trust that inflation will not get worse. This helps avoid panic buying or price speculation.However, raising interest rates comes with a trade-off: it can slow down economic growth. Small businesses may delay expansion, and consumers may avoid buying cars or homes. This is why central banks must be careful—they don’t want to stop inflation by accidentally causing a recession.In summary, the BSP raises interest rates to cool down spending and control price increases. It’s a tool to stabilize the economy, but it needs to be used wisely to balance growth and inflation.
