Response to Classmates Discussions
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Week6-DiscussionForum2.docxWeek 6 - Discussion Forum 2
SundayAug 2 at 10:53am
Interest rate fluctuations create opportunities and risks for consumers and businesses alike. Low interest rates affect the level of consumer or business spending through disposable income and financing options. Reducing interest rates provides a consumer with the opportunity to refinance a loan or mortgage, decreasing the payment. The decrease in payment increases one’s disposable income available for purchases in local business. As the businesses revenue increases, its cash inflows can now support additional outflows for investments or expansion. Low cost loans for capital projects provide funding solutions at an affordable rate. Additionally, if an organization has outstanding bonds and rate are low, the bonds can be repurchased at the discount and reissued to reduce future interest payments.
There is also a downside to low-interest rates, they can only go up. Low interest rates can cause inflation to rise and to control rising inflation, the government increases interest rates, consumers reduce spending, and then inflation levels off (Seabury, 2020). Referring to The Great Recession of 2008-2009. Interest rates were very low on mortgages and criteria for approval lax. The housing market surged with folks buying homes, further increasing sale prices. Businesses secured funding for investments and purchases. To control inflation, the government began to increase interest rates. Those who secured floating rate deals were now in a bind. They could no longer afford the payments on the loans and homes began to foreclose with bankruptcy following. Housing prices fell and now folks owed more on the property than it was worth. Business felt the same constraints. As consumer spending dropped, revenue fell, decreasing cash inflows and the ability to cover debt obligations. Repossessions of equipment began, layoffs ensued, and unemployment rose. Just one big snowball effect if one is not careful, weighing all the options in a decision-making process.
Reference
Seabury, C. (2020, March 20). How Interest Rates Affect the U.S. Markets. https://www.investopedia.com/articles/stocks/09/how-interest-rates-affect-markets.asp (Links to an external site.)
TuesdayAug 4 at 5:27pm
An interest rate is the percentage of an investment or loan returned to the lender in addition to the principal for the use of their capital. Interest rates can fluctuate depending on the economic environment and can vary between the domestic and international markets. When interest rates are low it means that consumers have more money in hand. As opposed to saving that money in banks (which will also have low interest rates) consumers are driven to increase their spending. People are also more likely to borrow money (in order to spend it) when interest rates are low. As consumers increase their spending businesses will also increase their production in order to meet the inflated demand. Businesses will also take out low interest loans in order to expand their operations for the same reason. All of this borrowing and spending can stimulate a country’s economy. That being said, during the current pandemic interest rates have been driven down which could be good for the economy, but simultaneously banks have tightened their lending standards (Bernard, 2020). “It’s not unusual for lenders to tighten the credit reins during a downturn, but the current situation has made it especially challenging for them to get an accurate read on consumers’ financial health” (Bernard, 2020, para. 6). Banks are also starting to mitigate the volume of their risk. One way to accomplish this is canceling unused credit cards or lowering credit maximums. I personally had a credit card I have not used in 2-3 years and just this month I was notified it would be canceled. I thought nothing of the timing until reading this article. Low interest rates and economic conditions can have unforeseen impacts on various levels of the financial system.
References:
Bernard, T. (2020, August 04). Interest Rates Are Low, but Loans Are Harder to Get. Here's Why. Retrieved August 04, 2020, from https://www.nytimes.com/2020/08/04/your-money/mortgage-loans-credit-cards-coronavirus.html
YesterdayAug 5 at 5:10pm
Low-interest rates impact the economic spending for both individuals as well as businesses. The Federal Reserve implements expansionary fiscal policy when it reduces interest rates. This action occurs to encourage increased spending and economic activity by both consumers and individuals. Two ways that lower interest rates affect the level of consumer and business spending is that both entities tend to have more available capital to spend and manage to borrow more from lenders towards investment projects. Johnston (2019) explains that during periods of lower interest rates, businesses tend to use their cash for the purchase of improvements to property, plants, and equipment. These investments help increase their current assets, which further adds value to the company. Consumers tend to follow a similar route in that they have more available cash to purchase more products or pay for services with the savings they see with a reduction in interest rates. For example, during the recent coronavirus pandemic, the Federal Reserve has slashed interest rates to historically low prices. Credit card rates are down to a four-year low of 16.01% from a high of 17.85% this same time over a year ago. (Dickler, 2020) Although both of these impacts seem beneficial to consumers and businesses, economists warn that lenders could pull back on increasing spending limits or lending out loans due to new credit risks that emerge during low-interest rate periods.
References:
Dickler, J. (2020). Fed holds rates near zero — here’s exactly what that means for your wallet. https://www.cnbc.com/2020/06/10/fed-holds-rates-near-zero-heres-what-that-means-for-your-wallet.html
Johnston, K. (2019). The Effect of Interest Rates on Business. https://smallbusiness.chron.com/effect-interest-rates-business-69947.html
