What Happens When the Fed Drops Interest Rates?
If you follow any type of financial news, one thing that gets brought up from time to time is federal interest rates and whether they’ll change to drive the market in a certain direction. There are also direct impacts to consumers if they’re looking to buy a house or have an adjustable-rate mortgage. So, when the federal funding rate is lower, it’s important to understand what the impacts are and how you can take advantage of it.
What is the Federal Funds Rate?
When you hear about the Federal Reserve adjusting rates, you’re hearing about the federal funds rate. The federal funds rate is a short-term interest rate at which banks lend money to each other overnight. That, in turn, can influence the interest rates on products the banks offer, like credit cards, affecting consumer and business products and ultimately impacting economic activity, employment, and inflation.
Eight times a year, the Federal Open Market Committee (FOMC) meets to determine what monetary policy actions, if any, should be taken, which involve whether the federal funds rate will change or stay the same. Any decisions are announced on the second day of each meeting.
How does the Federal Funds Rate Affect Mortgages?
The federal funds rate and mortgage rates are not directly linked. It’s possible for both to move independently or to influence one another. Mortgage rates are influenced by factors like inflation rate, employment rate, and the trajectory of the economy. These are the factors the federal funds rate also influences and can react to. If the federal funds rate changes, there’s a good chance mortgage rates can change too, but it’s not a guarantee.
If mortgage rates are lower, it can help new home buyers enter the market by lowering the barriers of entry with more affordability. For existing homeowners with a fixed-rate mortgage, they can refinance their current loans into a lower interest rate loan, potentially lowering their monthly payments. Those with adjustable-rate mortgages (ARMs) will see their rate change. Any influx of home buyers could also lead to higher home prices due to more demand if new supply is not available.
Home equity lines of credit rates are directly affected by the Wall Street Journal (WSJ) Prime Rate, which is directly impacted by the federal funds rate.
How does the Federal Funds Rate Affect Business Owners?
When the Fed lowers rates, financial institutions can turn around and lower the interest rates related to their business products. This can lead to business owners taking out more money to grow their business when borrowing is more affordable. That money can be put towards commercial mortgages for business space expansion, or higher-end business loans for equipment or commercial vehicle purchases. Lowering borrowing costs can also help businesses increase their profit margins.
How does the Federal Funds Rate Affect the Stock Market?
The price of a company’s stock can change based on the estimated cash flow predicted based on debt expenses or profitability. Investors may bring more capital into the stock market if stock prices are predicted to appreciate due to companies having more cash because of lower interest rates. The increase in investment can then push stock prices higher.
Increasing interest rates means higher borrowing costs for businesses, cutting into profits and making stock ownership less desirable.
Other Economic Impacts of Rates Changing
If financial institutions can offer products targeted at consumers at a lower interest rate, that can make it cheaper to borrow money, increasing the supply of money and encourage consumers to spend more. If demand outpaces supply, the value of goods and services can increase over time, leading to inflation.
Low-Rate Loan and Refinancing Opportunities
If you’re ready to take advantage of a lower federal funds rate, talk to the team members at Community First Credit Union. Whether you’re looking to take out a personal loan, business loan, or refinance into a lower-rate loan, we’ll make it easy for you and guide you every step of the way.
