Kavan Choksi Finance Expert Discusses How the Fed’s Decisions Influence Where Banks and Other Lenders Set Interest Rates

The Federal Reserve is the central bank of the United States. It is one of the most complex institutions in the world. As Kavan Choksi Finance Expert says, the Fed is prominently known to orchestrate the largest economy in the world. It determines how much it costs businesses and consumers of the United States to borrow money by deciding to raise, lower or maintain interest rates. Low borrowing rates often inspire businesses to invest in new initiatives or expand their operations.  On the other hand, high interest rates can deter businesses from hiring more staff and consumers from big-ticket purchases.

Kavan Choksi Finance Expert sheds light on how the Fed’s decisions influence the interest rates set by lenders

The Fed raised interest rates a whopping 5.25 percentage points since March 2022 to combat inflation. While it is unlikely that the rates will go up even further any time soon, its impact will live on. Some of the best savings yields are now topping inflation, while borrowing costs have hit their highest in more than a decade. Until the Fed starts to lower the interest rates, the rate environment is not expected to shift materially.

Higher Fed interest rates translate to more costly borrowing expenses for everything, right from homes and cars to purchases made on credit cards. This happens due to the fact that key borrowing rate benchmarks that influence some of the most popular loan products, including the prime rate and the Secured Overnight Financing Rate (SOFR), follow the Fed’s moves in lockstep. As the interest rates go up, a reduction is seen in the availability of money in the financial system. This is also one of the key factors that make it more expensive to borrow. At times, rates even rise on the mere expectation the Fed is going to hike rates.

 Borrowers commonly find higher rates reflected in one to two billing cycles, if they have a variable-rate loan. Consumers who are locked in a loan that has a fixed interest rate are not likely to feel any impact when the Fed raises rates.

Credit cards are one domain where the impact of the increase in interest rates is clearly felt. As Kavan Choksi Finance Expert says, the average interest rate on a credit card has witnessed new record highs throughout 2023, hovering at the latest series high of 20.75 % since the month of February. As long as people do pay their credit card balance in full each month, these interest rates would not impact them much.

It is vital to know that even though mortgage rates typically follow the Fed, they can commonly and quickly get disjointed. Mortgage rates largely track the 10-year Treasury yield, which tends to be guided by the same macroeconomic forces. However, at its most basic level, those yields go up and fall owing to investor demand. Investors could increase their investments in extended-duration assets if there is an anticipation of a rate cut by the Federal Reserve. This action could put pressure on the 30-year fixed-rate mortgage. Furthermore, longer-term yields and, by extension, mortgage rates could decrease during periods when the Fed is actively engaged in an asset-purchase program aimed at reducing longer-term rates.

 

Thomas Jung

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