Which of the following factors influences interest rates?

Inflation is a critical factor that influences interest rates because it affects the purchasing power of money over time. When inflation rises, the value of currency diminishes, leading lenders to demand higher interest rates to compensate for the decrease in purchasing power. This is because if they lend money at a lower interest rate during a time of high inflation, they risk receiving less in real terms when the loan is repaid.

In a scenario with elevated inflation expectations, lenders foresee that the money they get back in the future will buy fewer goods and services than it would today. Therefore, to protect themselves from potential losses, they adjust interest rates upward. This creates a direct relationship between rising inflation rates and increasing interest rates, as central banks also respond to inflation through monetary policy adjustments, typically raising benchmark rates to control inflationary pressures.

While other factors, such as government regulations, international trade agreements, and corporate management decisions, can have indirect influences or lead to changes in the economic environment, they do not have the same direct and pervasive impact on interest rates as inflation does. Inflation stands out as a fundamental driver in the realm of finance when it comes to determining the cost of borrowing and the return on savings.