The U.S. Federal Reserve has announced that it will raise its benchmark interest rate for the second time this year, reflecting the Fed's confidence in the strengthening of the U.S. economy and the falling unemployment rate. How does this decision impact businesses and individuals? We asked Paul Single, managing director of City National Rochdale, to explain.
Q: What should we know about this rate increase?
A: First, it was highly anticipated. It marks the second of the three rate increases the Fed plans for this year.
The 0.25 percent increase – to 1.125 percent from 0.875 percent – will probably cause a like move in the prime interest rate and maybe a few other short-term interest rates.
But it shouldn't affect lending very much. And savers will enjoy the extra income.
Q: What else happened at the Fed meeting?
A: Perhaps more important than the rate increase was the Fed's announcement that it plans to gradually reduce the size of its balance sheet, which had grown to $4.5 trillion as a result of the years of bond buying during the Fed's periods of quantitative easing.
Q: What is the expected impact of that move?
A: The reduction in the size of the Fed's balance sheet may have some impact on intermediate- and longer-term interest rates.
The Fed will reduce the amount of bonds it purchases each month. With less demand, this may put upward pressure on those intermediate- and longer-term rates.
But the Fed will be very gradual in the process, in hopes that it does not disturb the bond market. Fortunately for the Fed, these interest rates have been dropping this year as inflation expectations have been falling.
Q: How do these actions affect consumers?
A: In the short term, consumers may move more quickly to make big purchases over fear of higher rates down the road. That means auto and home purchases could increase in the near-term.
But the larger impact should be negligible. Fixed rate mortgage rates have been falling this year along with other bond rates. Today's mortgage interest rates are at historically low levels. Also, job growth is good, wage growth is better, consumer confidence is strong and home prices are increasing. These conditions may trigger a continued rush for prospective homebuyers to purchase homes and lock in at the current rates.
Q: What's the expected impact on businesses?
A: For businesses, they may borrow more now to avoid higher rates – and payments – later. In the long term, as lending becomes more costly, that could discourage some of the commercial real estate development that has been booming in the recent low-interest-rate environment. But the current level of interest rates do not appear to be near that level.
Q: What about the markets?
A: It depends upon the outlook for the economy and corporate earnings. U.S. stock markets are at record highs and may increase further because of a positive economic outlook. Once additional rate increases start to impede that outlook, price gains will likely not be as strong.
The other factor is uncertainty, which has been increasing lately. This is due to the lack of progress on many of President Trump's plans and questions about whether they will make it through Congress in the near term.
The information presented does not involve the rendering of personalized investment, financial, legal, or tax advice. This presentation is not an offer to buy or sell, or a solicitation of any offer to buy or sell any of the securities mentioned herein.
Certain statements contained herein may constitute projections, forecasts, and other forward-looking statements, which do not reflect actual results and are based primarily upon a hypothetical set of assumptions applied to certain historical financial information. Certain information has been provided by third-party sources, and although believed to be reliable, it has not been independently verified, and its accuracy or completeness cannot be guaranteed.
Any opinions, projections, forecasts, and forward-looking statements presented herein are valid as of the date of this document and are subject to change.
Bonds and bond funds are subject to interest rate risks and will decline in value as interest rates rise. This risk is heightened with investments in longer duration fixed-income securities and during periods when prevailing interest rates are low or negative.
All investing is subject to risk, including the possible loss of the money you invest. Past performance is no guarantee of future results.
City National Bank provides investment management services in conjunction with City National Rochdale, its wholly-owned subsidiary. Herein are communications prepared by City National Rochdale that reflect City National Bank's investment products and services.
NON-DEPOSIT INVESTMENT PRODUCTS: