Next week, the U.S. central bank, or Federal Reserve, will begin raising interest rates. Even if you don’t live in the U.S., this means that your cost of borrowing – for cars, homes, credit card debt and anything else – will probably increase as well.
The U.S. Federal Reserve (the Fed) cut interest rates to close to zero in December 2008. It was a last-ditch effort to stabilize the U.S., and the global, economy in the middle of the global economic crisis. Fortunately, it worked.
But it’s taken eight years for the Fed to feel like the American economy is strong enough to survive higher interest rates. This interest rate hike is one of the most anticipated events in the world of finance in years.
When the Fed raises interest rates, it doesn’t directly make people’s mortgages or credit card debt more expensive. Instead, the Federal Reserve increases what’s called the Fed rate. That’s the interest rate the central bank charges to lend money to other U.S. banks. So, when the Fed raises interest rates by a quarter of a percentage point after its December 15-16 meeting, it won’t take long for banks in the U.S. to do the same.
But this isn’t just an issue for the American economy. Central banks around the world often follow the lead of the Fed, as the world’s largest economy in many ways sets the tone for central banks everywhere. In recent years many countries have experienced a long period of low interest rates, as the graph below shows.
As the U.S. raises interest rates, many other countries, in Asia and elsewhere, probably will too. This will be good for banks’ profitability. It will also be good for people who save money, as the interest rate they earn will probably rise.
But it’s bad news for sectors of the economy that are sensitive to interest rates, like real estate. A very large portion of the property market is funded by mortgage loans, and a higher rate of interest means higher payments. It’s also bad for borrowers, who will see their interest payments on credit card debt, student loans and other debt increase.