Finance, Forex and Investments

How does raising interest rates reduce inflation?

I don't follow the logic of raising interest rates to reduce inflation. Can anyone provide some reasoning around this practice?

Public Comments

1. It costs more to borrow money with higher interest rates, which means that businesses have to slow down their operations. If all businesses have less sales, then they have less to pay in wages, so people have less money. There's less demand for goods, so prices fall. Something like that.
2. The fed raises interest rates periodically in order to keep the "price" of money high. This will cause the market demand for money and printing, circulation, etc. to slow so there isn't an over-supply of money-- If there is too much money (over supply)this would cause prices to rise disproportionately. To keep this from happening, the central banks and the fed raise the rates to stop this from happening.
3. Interest rates rise. Business borrow less to purchase equipment or finance growth. A slow down in business activity slows down demand for good and people. Employment slows. With less employment and less demand for goods and services, rising prices slow down and begin to fall.
4. One of the definitions of inflation is "to much money chasing after to few goods". So you make the money more expensive (higher rates), and hopefully inflation comes down....