How does inflation generally affect business finance?

Inflation generally affects business finance by eroding purchasing power and impacting interest rates. When inflation rises, the value of money decreases, meaning that consumers and businesses can buy less with the same amount of money. This reduction in purchasing power forces businesses to adapt their pricing strategies, potentially leading to increased costs for goods and services.

Moreover, inflation influences interest rates; central banks often raise interest rates to combat high inflation. As interest rates increase, the cost of borrowing also rises, affecting businesses that rely on loans for expansion or operational costs. Therefore, both aspects—decreased purchasing power and rising interest rates—are significant ways inflation influences business finance, making the choice that reflects this dual impact accurate.