The US central bank is expected to decrease interest rates for the first time in four years on Wednesday, representing a significant event for the largest economy in the world. This anticipated decision will have repercussions for mortgages, credit card rates, and savings rates, impacting millions in the US and internationally. The specifics of the cut, including its size and potential lowering of rates, will be revealed upon announcement. What does this mean for individuals?
How will a rate cut affect mortgages, car loans, and other debts?
The Federal Reserve’s main lending rate, which dictates what banks charge for borrowing, influences the rates individuals pay for loans, including mortgages and unpaid credit card balances. Currently, this rate has been around 5.3% for over a year, the highest since 2001, following an increase from near zero in early 2022. A decrease in this rate will provide relief to borrowers but may also lead banks to lower interest rates for savers as well. Mortgage rates in the US have already seen a minor decline, largely in anticipation of this decision.
What could be the global implications?
While American borrowers will feel the most immediate impact, countries with currencies linked to the dollar, like Hong Kong and many Gulf states, will also be affected as they often align their interest rate decisions with the Fed. Additionally, investors outside the US who are involved in the US stock market are likely to view a rate cut positively. Lower interest rates typically enhance stock prices for two primary reasons: they allow companies to borrow at lower costs and reinvest in operations, boosting profitability, and make savings accounts less appealing, encouraging investors to allocate their funds towards stocks instead.
Why might the Fed decide to cut rates now?
The Federal Reserve is somewhat late to implement interest rate cuts compared to other central banks in regions like Europe, the UK, New Zealand, Canada, and several emerging markets, which have already made similar adjustments. The Fed’s decision-making hinges on two factors: inflation and employment. When the Fed began raising rates in 2022, the goal was to combat rising inflation, which reached levels not seen since the 1980s. Increases in rates help reduce prices by making borrowing costlier, thus curbing consumer spending. However, reduced demand can hinder economic growth, leading to potential contraction and recession. Historically, the US has faced recessions following a series of rate hikes, which can result in significant job losses. Recently, US unemployment rates have been inching upwards as hiring has slowed. Analysts are examining whether the Fed’s decision reflects success in managing inflation or if it signals concern for the economy’s stability. Notably, inflation dropped to 2.5% in August, prompting a shift in focus toward safeguarding the labor market. Importantly, while the Fed’s movements have been closely monitored by both political parties, Fed Chair Jerome Powell consistently emphasizes that decisions are based on economic indicators rather than political considerations.
What can we expect regarding the size of the rate cut?
Fed Chair Jerome Powell has made efforts to avoid surprising the market with unexpected rate cut announcements.