How do interest rates influence the rate of inflation?

Inflation is a sustained increase in the general price level (and a fall in the real purchasing power of money). The rate of inflation is normally measured by a consumer price index, such as the Retail Price Index in the UK (which measures the annualised rate of change in prices over the preceding year). The Monetary Policy Committee of the Bank of England meets each month to set the official base rate of interest for …

…order to control cost-push inflation. Interest rates therefore have a big impact on the rate of inflation. An increase in interest rates results in a decrease in aggregate demand (although by how much partly depends upon the interest elasticity of demand for bank loans). Since excessive growth in aggregate demand is one of the main causes of inflation, interest rates and inflation are related. The interest rate is therefore a useful way of controlling inflation.