Interest rates have a direct effect on consumer behavior, impacting several facets of everyday life. When rates go down, borrowing becomes cheaper, making large purchases on credit more affordable, such as home mortgages, auto loans, and credit card expenses.
The existence of interest allows borrowers to spend money immediately, instead of waiting to save the money to make a purchase. The lower the interest rate, the more willing people are to borrow money to make big purchases, such as houses or cars.
Low interest rates mean more spending money in consumers' pockets. That also means they may be willing to make larger purchases and will borrow more, which spurs demand for household goods. This is an added benefit to financial institutions because banks are able to lend more.
An increase in interest rates can affect a business in two ways: Customers with debts have less income to spend because they are paying more interest to lenders. Sales fall as a result. Firms with overdrafts will have higher costs because they must now pay more interest.
It becomes relatively more attractive to hold cash and/or spend. This is the substitution effect – with lower interest rates, consumers substitute saving for spending. However, if interest rates fall, savers see a decline in income because they receive lower income payments.
When interest rates are low, businesses also have more access to financing because loans are less expensive. As a result, you have better resources to fund new business ventures, equipment, or improvements.
If a central bank implements negative rates, that means interest rates fall below 0%. In theory, negative rates would boost the economy by encouraging consumers and banks to take more risk through borrowing and lending money.
Low interest rates are challenging for income investors, as fixed-income assets pay less. Among banking products, CDs and online savings accounts offer better yields. Corporate, municipal, and junk bonds offer higher rates than US Treasuries, at varying degrees of risk.
Particular winners of lower federal funds rates are dividend-paying sectors, such as utilities and real estate investment trusts (REITs). Additionally, large companies with stable cash flows and strong balance sheets benefit from cheaper debt financing.
Lower interest rates make the cost of borrowing cheaper. It will encourage consumers and firms to take out loans to finance greater spending and investment.
Higher interest rates are thought to affect consumer spending through both substitution and income effects. ... In contrast, higher interest rates boost consumption through the income effect, because households (on net) receive more interest income.
With an increase in interest rates, businesses with company credit cards and existing loans can have higher interest payments, less disposable income and bigger overheads. In some cases the business may end up paying off the interest only, rather than the loan itself.
Yet No Comments