Effects of Changes of Interest Rates & Inflation Assignment

Effects of Changes of Interest Rates & Inflation Assignment Words: 2150

INDEX:PAGE: 1. INTRODUCTION2 2. OBJECTIVES3 – 3 3. METHODOLOGY USED3 – 4 4. PRESENTATION AND ANALYSIS4 – 6 5. CONCLUSION6 6. RECOMMENDATION6 – 7 7. REFERENCES7 INTRODUCTION The impact of the change interest rates and inflation has a persistent impact on the well being of any given society. For this purpose it is the understanding that each individual in society should have an understanding of what such changes bring fourth for the man on the street. In this introduction, we are going to introduce certain key points to remember when dealing with interest rate- and inflation changes.

Inflation is a sustained increase in the general level of prices for goods and services When inflation goes up, there is a drop in purchasing power of money Variations on inflation include deflation, hyper inflation and stagflation The cause of inflation is defined in two theories namely Demand-pull inflation and Cost-push inflation When there is anticipated inflation, creditors and people earning a fixed income loose, costs goes up – people are less likely to spend money and exporting of goods drop The lack of inflation (or deflation) is also not necessarily a good thing Inflation is measured with a price index

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Price Indexes are categorized as Consumer Price Index and Producer Price Index Interest rate changes are decided by the Central Bank in South Africa and enforced by Bank of Namibia In the long run, stocks are good protection against inflation Inflation is a serious problem for fixed income investors Inflation-indexed securities offer protection against inflation, but offer low returns. Taking into consideration the key points to remember, one can now safely define what interest rates and inflation means: # Interest Rate: A rate which is charged or paid for the use of money.

An interest rate is often expressed as an annual percentage of the principal. It is calculated by dividing the amount of interest by the amount of principal. Interest rates often changes as a result of inflation and Central Bank and Bank of Namibia policies. # Inflation: “A persistent increase in the level of consumer’s prices or a persistent decline in the purchasing power of money. ” Since inflation is a national average of all prices, it may differ considerably from the rate experienced by any particular household. OBJECTIVES

In this assignment, it is envisaged that by studying this report, the reader should have: A clear and concise understanding of the impacts changes in interest rates and inflation have on the society To create awareness of the impacts changes in interest rates and inflation have on the society METHODOLOGY USED In pursuit of information on this very important topic, the research team engaged in what methods to be used to ensure that the correct information is gathered to provide a brought understanding of the impacts of interest rate- and inflation rate changes for the reader and/ or user of this report.

Beneath is a layout of the plan used by the research team Structure/ design of research The team concluded that information will be collected systematically to create a gradually impression of the topic under research Team members were task to perform specific tasks in the gathering of the information required. Consistency in the process was very important and time frames were connected to the gathering of information. Methods used to ensure accuracy of information

Studies done by accredited institutions as available on the Internet Brochures published by the Bank of Namibia and other Financial Institutions based on the economic situation of the country News paper articles provided by recognized economists Other methods considered Interviews with selected members of the banking society and financial institutions Telephonic conversations with credible persons identified who specialize in the field of interest rate changes. Processing and analyzing of collected data

Data collected will be discussed and strategically mapped to identify possible shortcomings or overlapping. Considering the fact that the collecting of mass data is envisaged, most data, where possible could be obtained electronically for better analyzing and processing. Financial implications Collections were made by team members to address telephone, taxi, fuel and paper expenses that were incurred during the data collection process. Other resources needed were provided by various employers of team members. PRESENTATION AND ANALYSIS

The economy of Namibia is linked to the economy of South Africa. This means that the Namibian economy is highly sensitive and exposed to fluctuation of inflation and interest rates in the South African Market. Two main factors that currently have a direct impact on inflation and interest rates on the South African economy, is the monetary value of the South African Rand against the US dollar as well as the acceleration/increase in the price of crude oil price by 23 percent in New York this year, reaching a record price of $118. 05 a barrel.

This, for instance, caused that the South African inflation accelerated to an annual 10. 1% in March, the highest in more than five years, which create pressure on the Central Bank of South Africa to increase interest rates. In an effort to curb accelerations in inflation, the South African Reserve Bank also increased its benchmark interest rates five times in less then a year. The impact the latter has on the Namibian economy is tremendous, taking into consideration the fact that Namibia import ± 70% of its goods and products from South Africa by road.

Although the latter situation prevails, Namibia as a country is required to introduce meganisms to control the supply of money. For this purpose, the Bank of Namibia is established by Government. The Bank of Namibia uses established monetary policies to provide advice and guidance to the Government. The monetary policy also aims to influence the overall level of monetary demand in the economy so that it grows broadly in line with the economy’s ability to produce goods and services. Interest rates are increased to moderate demand and inflation, and reduced to stimulate demand in order to maintain the balance at all times.

This stops output rising quickly or slowly. Monetary policy further operates by influencing the cost of borrowing and the income from saving. These interactions will sometimes results into a depreciation or appreciation of a currency. Therefore, like other prices, exchange rates are determined by the interaction of supply and demand. On the other hand, changes in the Official Banking Rate effects a whole range of interest rates set by commercial banks, building societies and other financial institutions for their own savers and borrowers.

It will affect interest rates for overdrafts and mortgages, as well as savings accounts. A change in the official Bank rate will also tend to affect the price of financial assets such as bonds and shares, and the exchange rate. These changes in financial market affect consumers and businesses demand and in turn the output. Changes in demand and output will then have an impact on the labour market- employment levels and wage costs. The question is what has this to do with the Namibian society.

The primary concern of the consumers’ is how their income will keep up with the rise in prices and their expenses. Opinions are normally created that with an increase in income people would feel more job satisfaction and experience a sense of fulfillment even if prices accelerate/ increase. Anxiety is particularly pronounced for retirees and their uneasiness about inflation adjustments to their pension and financial investments. Retirees need to plan for retirement requires as wells as form expectations of prices in future.

Inflation, however, makes this difficult because even a series of small unanticipated increase in the general price level can have a significant impact on the real value of savings over time. Namibians, like the Americans, also seem to believe in a “lagged wage-price” model of economy meaning that they assume that price increases occur first and wage increases follow, which is often much later. Many people therefore, are having negative opinions about inflation because this makes it easier for government, employers, financial institutions and others to deceive them.

They opine that employers may “forget” to increase their wages equivalent to inflation and thereby giving them a pay cut, which may lower standards of living by pushing up prices before wages increases. Therefore, some changes in the Official Bank Rate take time to have their full impact on the economy and inflation. This action shifts the distribution of power in the financial marketplace to the more sophisticated and knowledgeable actors, to the detriment of the average person. Inflation however, might benefit some people, by its redistribution of wealth from creditors to debtors.

However, businesses care about how the prices of their products relates to productivity. Business productivity may rise more quickly with price stability. The inability to pass cost increase through to higher prices provides a powerful incentive to businesses to increase profit margins through innovation. Furthermore, oil is used pervasively to fuel machinery and other technology. Therefore, if the price of oil increases, productivity shrinks. Inflation, therefore, may weaken jugdement as to how well the business is doing in terms of productivity.

Accredited economists emphasized the fact that inflation can do economic damage by distorting investment and consumption decisions since it results from uncertainty about inflations’ in the future and it’s interaction with income tax. Therefore, any interaction by inflation with personal income taxes can distort decisions about how much income is spend on housing especially with regard to where mortgage interest payments are deductible. Since inflation is built into nominal interest rates, even a moderate rise in the price level increases the mortgage payment deducted.

Therefore, moderate to high inflation prompts households to spend more on housing than it would have been optimal in a low-inflation environment. Current indications are that inflation rates, which included mortgage costs, rose to 10. 6 percent in March 2008 from the 9. 8 percent in February 2008 in accordance with the statistics office. The result, thereof, is that people are less likely to purchase goods and property. This creates a situation where prospected homeowners are not prepared to enter the market.

People tend to concentrate more on renting properties or make use of public transport than to acquire property in this regard. It, therefore, suppress a society to redefine their needs and subsequently focus more on attending to the basic needs such as food, water, shelter, health etc. The opposite of this also plays a role in the economic growth of the country. Markets are standing still as no selling or purchasing is taking place. CONCLUSION It is the forecast of economists that the current situation can become worst. Society will be forced to tighten their belts much, much more.

Food prices, fuel prices and other necessities such as water and electricity will become more expensive. It would become totally unaffordable to purchase property. Businesses will not flourish and may create an economic standstill. Employment will become scarcer and scarcer and more and more workers could be laid off. This directly results in the increase of poverty and crime. A typical example of a country with a too high inflation rate is Zimbabwe. Taking into consideration the above-mentioned, one can safely say that excessive economic growth can be very detriment.

If an economy is growing to fast it can experience hyperinflation. On the other hand an economy with no inflation will eventually stagnate. The right level of economic growth, and thus inflation is some where in the middle. Therefore, it is the Central Bank’s job to maintain that delicate balance. A tightening or rate increase is an attempt to head off future inflation. An easing or rate decrease aims to spur on economic growth. RECOMMENDATION In order to decrease the impact of interest rates and inflation on the society, it is the recommendation of the research team that:

Namibia needs to as fast as possible get to a point where its imports equal its export Stricter control needs to be exercised by government to ensure the increase in Gross Domestic Product More efforts needs to be made by Government to create more spending money on ground level through the reduction of tax rates and increase of basic labour rates Efforts should be made to create greater awareness on the utilization of funds as well as the investment of capital Government should make a serious effort to reduce its expenses such as expensive cars for ministers etc.

Bigger efforts should be embarked upon to ensure more investment in the country Natural resources should be applied to the direct benefit if citizens It is the belief of the research team that should these few recommendations is implemented, the impact of interest rates and inflation will not have such a tremendous impact on the society, and better economic control will be possible to stabilize economic factors such as inflation.

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