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I am fully aware of the standard logic that interest rate rises lower inflation by slowing investment.

However, isn't it the case that any debt that companies have becomes a larger cost and hence puts pressure on them to raise prices? Which would at least counter balance the slowing of investment argument.

A cusory visual inspection (counter to what what Investopedia says) there doesn't seem to be much correlation between the two. If anything a positive one (until the pandemic).

[I've also read/heard somewhere, maybe the Economist, that most studies that found this causal link were done by central banks and purely academic papers found little or no causal link. This might have been in reference to the effectiveness of QE though.I need to find the reference]

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Suppose a company has 1000 million USD in annual revenue and has 2% ratio of interest expense over revenue. There are plenty of companies with a ratio lower than that and some at virtually 0%. There are some with a 8% ratio or even more. Somewhere in between is a typical number so for this experiment I will use 2%. The aggregate of the S&P 500 had a 12% net profit margin in Q4 2021 so that is also a typical number.

Right now long term U.S. Treasury bonds are near 2.5% and a company with BBB rating might pay a spread of 1.5% so they would be paying 4% in total. This implies a debt of 500 million USD. If average maturity is 7 years they might refinance one-seventh each year and if the interest rate increases to 5% this means total costs of expenses and interest and taxes increases only 0.08% in the first year. Such a small change over the course of a year is not a strong inflationary influence. You can make a spreadsheet to try out other scenarios.

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  • $\begingroup$ Thanks for that. If I get time I'll look put something together to see if I can replicate your answer. Cheers $\endgroup$
    – Studi
    Apr 7, 2022 at 7:23

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