Higher interest rates curb inflation but slow economic activity

Steps:

• Higher interest rates make borrowing costlier, discouraging investment and consumer spending.
• Reduced spending lowers aggregate demand in the economy.
• Lower aggregate demand decreases output and slows economic growth.
• This contractionary monetary policy targets inflation without directly boosting employment.

Why C is correct:

• Contractionary policy reduces aggregate demand, leading to lower GDP growth as per the IS-LM model.

Why the others are wrong:

• A: Higher rates attract foreign capital inflows, causing currency appreciation.
• B: Higher rates incentivize saving by increasing returns on deposits.
• D: Slower growth raises unemployment via the Phillips curve trade-off.

Final answer: C