Many consumers may be panicking at the interest rate increases set in motion with today's rate hike by the Federal Reserve.
Yet the Fed has said it will raise the federal funds rate — which serves as the benchmark for all other interest rates — at a "measured" pace. And the impact of higher rates may be further muted because rates are starting from such a low point.
Now, the federal funds rate is at 1.25 percent, still its lowest level in decades. But longer-term, interest rates are forecasted to increase to 2.25 percent by the end of 2004 and 3.75 percent by year-end 2005.
Changes in interest rates can affect the overall economy, with higher interest rates being considered "bearish," while lower interest rates are "bullish."
Essentially, higher interest rates tend to slow economic activity as they raise borrowing costs for consumers and businesses, while lower interest rates stimulate economic activity.
Either way, interest rates influence the sales environment. In the consumer sector, the rate at which homes or cars are purchased tends to slow as interest rates rise. For businesses, particularly those with high debt loads or those which have to finance high inventory levels, interest rates are a significant factor as the interest cost has a direct impact on corporate profits.
Interest Rate Impact
With the Fed having raised interest rates, the impact on consumer loans will vary. Many consumer loans have already accounted for the rate increase. For the consumer, this means rates for car loans, mortgages and home equity products are on the way up.
On mortgages: Mortgage follow yields various U.S. Treasuries and other indexes, which usually price in anticipated rate increases. As such, mortgage rates have already begun to rise. The shorter the term of your loan, such as those with short-term adjustable rates, the more quickly your interest rate will be affected.
Where are rates now? As of June 23, the average 30-year fixed-rate mortgage dipped from 6.35 percent to 6.3 percent, while the 15-year fixed-rate mortgage fell from 5.75 percent to 5.72 percent and the jumbo 30-year fixed-rate mortgage dropped from 6.53 percent to 6.5 percent. The average one-year adjustable-rate mortgage declined for the first time in three weeks, from 4.37 percent to 4.36 percent. Although rates recently dropped a bit, they will likely begin to climb again if the bond market forecasts more rate increases later his year.
On car loans: Interest rates on car loans are linked to movement in the yields on the 2-year Treasury, which has already priced in the anticipated federal funds rate hike. So, those looking to buy a new car may have already seen increases in car loan interest rates. However, if you already have a car loan, no need to worry as your rate is fixed.
Where are rates now? As of June 23, the average rate for four-year and five-year new-car loans increased to 7.43 percent and 7.46 percent, respectively. The average rate for three-year new-car loans was unchanged at 7.4 percent, but is still up from 7.16 percent at the end of March. The average three-year used-car loan rate was unchanged at 8.46 percent.
On certificates of deposit (CDs): Yields on CDs will be impacted by a rise in the federal funds rate. When investors command higher returns for investing in Treasury securities, banks are compelled to increase yields on CDs to retain and attract customers.