What happens when the central bank increases the bank rate?

Step 1: Analyze the question The question asks about the effect of a central bank increasing the bank rate (also called the Minimum Rediscount Rate or Monetary Policy Rate in Nigeria).

Step 2: Explain the concept The bank rate is the rate at which the central bank (the CBN in Nigeria) lends to commercial banks. It is a tool of monetary policy and works like this:

• Bank rate rises → it costs commercial banks more to borrow from the central bank → commercial banks raise their own lending rates → loans become more expensive for businesses and individuals → people borrow less → money supply falls and spending slows (this helps control inflation).
• Bank rate falls → the opposite happens: borrowing is cheaper, so borrowing and money supply increase.

Step 3: Work through the options

• A. Amount of borrowing increases. Wrong. Higher interest rates discourage borrowing.
• B. Amount of borrowing decreases. Correct. Higher lending rates make loans costlier, so demand for loans falls.
• C. Supply of money increases. Wrong. A higher bank rate is a contractionary policy, so money supply decreases.
• D. Commercial banks are not affected. Wrong. Commercial banks borrow from the central bank and are directly affected, and they pass the higher cost on to their customers.

Step 4: Answer The correct option is B. Amount of borrowing decreases.

Tip: Remember "Rate up, borrowing down." A higher bank rate is a tight (contractionary) policy, used to fight inflation. A lower bank rate is an expansionary policy, used to stimulate the economy. Think of it like the price of any item: when the price of borrowing goes up, people buy (borrow) less.