How do interest rates affect loans and credit?

Higher interest rates result in higher borrowing costs because they increase the cost of servicing debt. When lenders set interest rates, they consider the risk of lending money; higher rates often reflect a higher perceived risk or inflation expectations. Consequently, when interest rates rise, borrowers face higher monthly payments on loans because the interest portion of those payments increases. This can affect various types of loans, including mortgages, auto loans, and credit cards, making it more expensive for individuals and businesses to borrow money.

This principle directly influences consumer behavior and overall economic activity: as borrowing becomes costlier, individuals may delay significant purchases or investments, and businesses may reduce expansion plans. As a result, understanding this relationship helps in making informed financial decisions regarding loans and credit.