The loanable funds theory, supported by economists like Irving Fisher, describes how interest rates are determined in a market.

The theory works through the balance of two main factors:

• Supply of loanable funds: This comes from the money that households decide to save.
• Demand for loanable funds: This comes from individuals or businesses who want to borrow money for investments.

In this framework, the interest rate works like a price. It balances the amount people want to save with the amount people want to borrow, helping to manage the trade-off between spending money today and saving it for the future.