Although it may seem as if creditors are cruelly manipulating your interest rates, they are not entirely responsible. The Federal Reserve plays a major role in determining how much you pay in interest, and there are several factors that are taken into consideration. Keeping a balance is critical, because the decisions they make concerning interest directly affects your pocket book.
The Federal Reserve influences the direction of interest rates in two ways. First, they can either raise or lower the discount rate, which is the interest rate banks are charged for borrowing from the Federal Reserve. This means that when banks are charged more, you get charged more as well. The discount rate is typically higher than others simply because the government would rather have banks borrowing from each other.
Second, the Federal Reserve can directly influence the direction of the federal funds rate, which is the rate at which banks borrow from each other. Due to the fact that banks have to comply with certain regulations, the consumer often catches the backlash of incurred expenses. However, this can also benefit the consumer. Banks have to meet their regulatory reserve requirement, providing an opportunity for those banks with a surplus to maximize their return. The more money banks have available, the more they are willing to loan out.
Overall, the Federal Reserve can only go in two directions. When interest rates are lowered it typically spurs economic development, which makes it less expensive for banks to lend money and allows more money to flow back into the market. However, when the Federal Reserve raises interest rates, spending slows drastically due to the consequent rise in prices.
Generally, what this information means for the consumer is that acquiring loans and other debt is less detrimental when interest rates are low, compared to when interest rates are high. Low interest rates promote spending, which is exactly the boost our economy needs in light of the recession.
Rumor has it that the Federal Reserve has pledged not to raise interest rates until approximately 2015. Although the goal is to increase household spending, this is not an excuse to start flinging plastic at the cash register. This is the time to get your finances in order, taking advantage of the low interest rates that limit the amount of extra expenses you incur. With the Federal Reserve limiting interest rates, smart spending will keep you out of the clutches of debt.