The economy goes through up and down cycles of interest rates. During the 1980s, the Federal Reserve rate was extremely high and rose above 10%. During the 2008 financial crisis, the rate was set all the way to zero. During the past two years, the rates have slowly drifted higher and currently exceed 1%. Many financial analysts are predicting further increases in interest rates at financial institutions and other lending institutions that could impact individuals and businesses alike.
Rising interest rates have the most immediate impact on savers. When deposit rates increase, people that are saving funds will immediately earn more in their nest egg. A small rise in rates from 1% to 2% doubles the cash generated, so if you have $1,000,000 in savings for retirement, you are now earning $20,000 per year verse $10,000 per year. That could have a significant impact on your household.
While savers benefit when rates rise, borrowers usually must pay higher rates when they borrow money. Depending on the index and the terms, variable rate products such as credit cards, adjustable rate mortgages, equity lines, and lines of credits may have rate increases. And when a borrower decides to purchase a new car or obtain a new personal loan, he/she is likely to pay a higher rate on that loan. This puts more pressure on individuals and increases costs.
The flip side is that when the interest rate is rising, the economy is generally performing better. People are more likely to stay employed and pay back the loans. Borrowers and investors may also be able to get a better economic return from their use of proceeds than in previous years.
Other Economic Effects
As the economy continues to do better and better, businesses, in general, tend to thrive. When businesses thrive, they often need to hire to keep up with demand, creating more jobs. This economic success can also result in increased wages and other employee benefits. Individuals working in an economy with rising rates are more likely to stay employed and see rising income. This is generally good news.
At the same time, as inflation increases goods such as food, energy, education, medical care and other items continue to increase in price. So even though people are earning more in wages they are spending more at the store and may not save quite as much as they would like.
Overall, rising interest rates are mostly good for the economy. It signals increased activity and borrowing. However, excess interest rates can have a negative impact on personal financial success. So be sure to save for a rainy day and seek out the best deposit and loan rates for your financial needs.
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