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Federal Reserve Rate Changes And Consumer Interest Rates |
By:
Kalinda Rose Stevenson, PhD |
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The most widely publicized way the Federal Reserve controls the money supply is by changing its interest rates.
Before scheduled Federal Reserve meetings, you'll hear a lot of speculation about what the Fed will do. These speculations affect the stock market. Media reports also speculate about the effect of possible interest rate changes on consumer credit cards, mortgages, and auto loans.
All of this media attention and speculation is a bit misleading, because any changes the Fed makes in the interest rate do not affect consumers directly. The interest rate, also called the discount rate, does not refer to your credit card interest. It refers to the interest rate the Federal Reserve banks charge commercial banks when they borrow money.
The Fed changes the discount rate to make it more or less profitable for commercial banks to borrow money. The banks use this borrowed money to make loans to their customers.
The two critical points to remember are: 1. The Federal Reserve system exists to control the amount of money in the system. 2. The banks exist to make money by loaning money to their borrowers.
Whenever the Fed increases the interest rate that the commercial banks must pay to borrow money, the banks cannot make as much profit on their loans to its customers. When the Fed decreases the interest rate, the commercial banks can make more profit on their loans to bank customers.
When the Fed changes the interest rate it charges banks, this affects the speed of money in the economic system. The lower the interest rate, the faster banks can loan out money and increase the amount of money in the system. The higher the interest rate, the slower banks can loan out money. So, even though the interest rate directly affects banks, these rate changes matter to all of us.
The critical point is that consumer interest rates are not directly related to changes in the Fed interest rate. The Fed does not change consumer interest rates. The banks might change your interest rates on credit cards or your adjustable rate mortgage, but the change is not directly tied to changes in the rate the Fed charges banks to borrow money.
By Kalinda Rose Stevenson, Ph.D.
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Article Source: http://www.statssheet.com/articles/article55727.html |
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