Interest rates rise and fall in an effort to protect the economy from recession and/or control inflation. Rates typically rise in boom times, when spending is high and banks are extending credit left and right. Interest rate increases are designed to help keep inflation in check. That said, the opposite is also true—during times of strain, rates drop. When rates drop, the cost to banks is lower so they are more likely to extend credit. Another method of encouraging loans is called quantitative easing (QE). While QE does contribute to a drop in interest rates for consumers, the QE process is slightly different than the process of simply lowering the rate offered to banks.
What is QE?
The Federal Reserve, the central bank of the United States, began its quantitative easing program back at the beginning of the recession in 2008. The program was designed to provide an influx of money to banks through the purchase of bonds and other securities. Along with buying the securities, the Fed also created new money to pay for them. Flooding banks with bonds provides more them with more cash, so they have more to loan—just as reducing overnight interest rates offered to banks provides banks with more cash for lending.
The Federal Reserve went through a few rounds of QE between 2008 and 2014. According to The Economist, The Federal Reserve increased the amount of its bond holdings from $1 trillion to more than $4 trillion. It announced that it was going to begin to reduce the amount of bonds it purchased each month starting in January 2014. At that time, the Fed cut its purchases to $75 billion per month. By the end of October, bond buying was down to $15 billion per month.
Impact of QE
The biggest impact of QE was a significant reduction in interest rates. Rates on mortgages fell to record lows. Other positive effects of the program included giving the stock market a boost and helping raise employment levels.
Now That It’s Over
Now that QE has come to an end, interest rates on loans and mortgages have increased. The Federal Reserve raised rates for the first time in almost 10 years on December 16, 2015.
The big question: Now what? Most economists are saying that mortgage and banking interest rates will indeed rise! If you’re thinking of buying a home or considering refinancing your current loan, it may be better to make the leap now, post-QE, when rates are low. Otherwise, you’ll have to wait and see what happens. Whatever you choose, be prepared to see HELOC and/or ARM loan rates go up. Those historic low rates you’ve been enjoying for years now, are on the rise—and they’re likely to escalate quicky!
Image source: Flickr
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