If you’ve tried buying a new car, a new house, or paying with your credit cards, you may notice that the interest rates you’re being charged are higher than you experienced earlier this summer.
Inflation has been a huge force on family budgets in the United States over the past year. Currently, the year-over-year inflation rate is 8.5%. This number has an impact on most financial matters where lenders are involved.
The Federal Reserve Board is the agency responsible for establishing monetary policy and promoting the stability of the banking system in the United States. Based on the money supply of the country, as we are currently experiencing, the demand for consumer goods and real estate is higher but the supply of these same goods is limited. This is the definition of inflation. Although you can’t see “inflation,” you experience it every day when you buy groceries, fill up your car, borrow money to buy a house, or apply for a credit card. credit.
The rate controlled by the Federal Reserve is known as the discount rate. This is the interest rate charged to banks to borrow from the Federal Reserve. If the borrowing rate increases for your community banks, the interest rate the bank charges you on loans could be higher than what you were experiencing before. Consumer (you and me) loan rates are based on such factors as your credit score, debt-to-equity ratio, collateral offered to secure the loan, and general payment history with the lender.
For the past few years, the Federal Reserve has allowed the discount rate to stay close to zero percent. This fueled an aggressive amount of lending and money supply to become more liberal for borrowers as rates charged to borrowers were exceptionally low. For example, to some of the most creditworthy borrowers, auto finance companies such as General Motors Acceptance Corporation lent funds to purchase automobiles on terms such as no interest for sixty months. Why would the lender give such a loan to anyone? The reason for this is that automobile inventory was increasing and manufacturers (and associated dealers) had to sell more inventory.
Credit card companies have also kept interest rates extremely low over the past few years. I’m not a fan of credit cards as a means of borrowing unless the card is paid in full each month. Interest rates for unsecured personal loans can reach 22-25% per year.
When the Federal Reserve raises the discount rate, it impacts the prime rate (the interest rate that banks lend to their customers with good credit) by causing it to rise about a few weeks after the announcement of the Federal Reserve. Shortly after prime rates rise, mortgage and other loan rates will rise proportionally.
Unless necessary, purchases of large items on credit during a period of rising rates are not recommended. For example, your home may be worth much more today than it was two years ago. However, the house you would need to buy for your family, if you sold the primary residence, would cost you more for the same house as it did two years ago. It is the natural cycle of value and borrowing.
As the money supply in the United States begins to tighten (less money in circulation), inflation will begin to decline. It is an economic certainty that US markets will expand and contract. That’s how he always behaved. The hardest questions to answer are: When will the economy expand (boom)? When will the economy contract (recession)? The person who knows the answers to these futuristic questions can sell you beachfront property in Arizona.
Economics is a difficult subject for many of us. It is essential that risk is taken into account in all financial transactions, including loans. For more information and to plan for your future, contact a CERTIFIED FINANCIAL PLANNERTM professional. Watch out, it’s the jungle out there!
Registered securities offered by Cambridge Investment Research, Inc., a broker/dealer, Member FINRA/SIPC. Jimmy J. Williams is an Investment Advisor representing Compass Capital Management, LLC, a Registered Investment Advisor. Cambridge and Compass Capital Management, LLC are not affiliated. 321 S. 3rd, Ste. 4, McAlester, OK 74501. Cambridge does not provide legal and tax advice. Please consult your legal and tax advisor for specific estate and tax planning strategies.