Question

How should an increase in inflation affect the interest rate on an adjustable-rate mortgage?

Short answer

An increase in inflation affects the interest rate on an adjustable-rate mortgage by reducing the interest rate.

Step-by-step solution

Step 1. Meaning

The inflation rate is an increase in the price of goods and services over time that decreases the purchasing power of money.

An adjustable-rate mortgage which is also called a variable-rate mortgage and tracker mortgage, is a mortgage when the interest rate of a loan is adjusted based on the index that shows the lender's cost of borrowing on the credit market.

Step 2. Explanation

Adjustable-rate mortgages as the name suggests can be adjusted, the more the inflation, the higher the interest rate on the adjustable-rate mortgage, so more inflation reduces the real interest rates on a fixed-rate mortgage.