What is the likely impact of rising interest rates on aggregate demand?

Rising interest rates typically lead to a decrease in aggregate demand. When interest rates increase, borrowing costs for consumers and businesses also rise. This makes loans for big-ticket items, such as homes and cars, more expensive, which can lead to reduced consumer spending. Additionally, higher interest rates can deter businesses from taking out loans for investment projects, leading to a slowdown in capital spending. As both consumer and business expenditures drop, overall demand in the economy declines, resulting in decreased aggregate demand.

Understanding this relationship is crucial, as it illustrates how monetary policy, through adjustments in interest rates, can influence economic activity by affecting consumption and investment levels.