Money Matters

Breaking down the Fed’s big rate cut and what it means for you

Written by

Jonathan McFadden

Posted

March 19, 2020

The Federal Reserve made a historic move March 15 when it lowered interest rates to zero in response to the global coronavirus pandemic.

That means it’s now cheaper for consumers like you to buy a car, borrow money or refinance existing debt. Let’s take a closer look at why the Fed rate cut is such a big deal and what you can do about it.

First, what is the Federal Reserve?

The Fed is the central bank of the United States, and its policymakers influence how expensive it will be for you to borrow money. Every decision they make ripples across the economy and eventually affects your pockets. They make economic forecasts, deliver reports on financial and foreign exchange markets and vote on whether to raise or lower the federal funds interest rate.

That’s the part we’re most interested in right now.

How does the Fed influence rates?

The Fed has two main goals: to encourage full employment and keep inflation under control. (Side-note: Inflation is the rise in the overall price of goods and services, so it’s a good thing when it stays manageable.)

It does this by setting the federal funds rate, which influences the rates banks charge to lend each other money. This in turn impacts how much banks charge their customers for loans, affecting how much you pay for your car, house or credit card.

If the Fed wants consumers to spend more and boost the economy, it cuts the federal funds rate, which reduces borrowing costs and makes money easier to get. If the Fed wants to cool down the economy, it raises rates, which makes borrowing more expensive and restricts how much money we’ll spend.

So, what’s up with these huge rate cuts?

The coronavirus outbreak has sent pretty much everyone into a panic. The Fed is no different. Because people are facing massive economic pressure in light of the pandemic, the Fed decided to lower the fed funds rate to 0%. That makes accessing credit and getting loans — which plenty of people may need in the weeks ahead — less of a burden for Americans.

The rate cut aims to keep us spending and the economy moving. It also eases the pressure from existing debts, which should be a relief for anyone with an upcoming credit card payment or plans to take out student loans next year.

The most recent cut comes after the Fed slashed rates on March 3. Obviously, the central bank didn’t feel that was enough to stimulate the economy.

Does this mean my rates drop to zero, too?

Sadly, the rates you pay on debt will not be dropping to zero (not even the government can borrow at zero). You can benefit, though, because it’s now cheaper for banks to borrow and refinance debt. Those savings will get passed on to you, meaning rates on some of your existing debt or debt you plan to take out in the near future could decrease.

How will Fed cuts impact mortgages, credit cards, student loans and car loans?

Mortgages: Mortgage rates are linked to yield (or the return) of the 10-year Treasury, a debt issued by the government that’s backed by the economy. Mortgage rates typically follow the direction of the yield. When the federal funds rate drops, so does yield on the Treasury, and so do mortgage rates. While your rate may not drop to 0%, you can still take advantage of the current rate environment. Shop and compare lenders on our marketplace and snag your best rate while you can.

Credit cards: Banks use the prime rate (the rate they charge their most creditworthy customers) to set rates on credit cards. When the Fed cuts rates, the prime rate falls, too, setting off a trickle-down effect that lowers APRs. Your card’s rate may drop a few points and you could reap some savings on your next few payments. If you’re in the market for a new credit card, you may be able to find one with sweet rewards and even better rates.

Student loans: Congress sets rates on student loans once a year, meaning rates for the current academic year are already set. However, new student loan rates for next academic year (2020- 2021) could fall. Lawmakers usually take cues on where to set student loan rates from the 10-year Treasury because it’s often considered a reliable barometer for economic health. When Treasury yield falls (thanks, in part, to the Fed’s rate cut), lawmakers follow suit and lower rates.

If you’re repaying student loans now, you may still experience some savings thanks to a recent measure by the government to waive interest on federal student loans. Even if you’ve paused your payments in deferment or forbearance, you won’t have to worry about accruing interest.

Auto loans:  The Fed rate cut may not have much impact if you plan to buy a new car any time soon. Still, because the cost of financing car loans will decrease for manufacturers, car shoppers might be able to score better deals.

Is now a good time to refinance?

We’d say so. Rates are on the decline, so it makes sense to take advantage of the low-rate environment and make your debt more affordable. Refinance your car, mortgage or student loans with lenders offering competitive rates. A balance transfer can help you refinance your credit card debt from a high-interest card to one with a lower rate. Or, you can replace your card with a personal loan, which generally has lower rates than credit cards.