The Fed Rate Cut & What's In It For You

Hello Hampton Roads,

Looks like Ben Bernanke couldn't wait until the regularly scheduled meeting at the end of this month to make a rate cut. In a surprise move last Tuesday, the Federal Funds rate was cut 75 basis points (.75%) to a new low of 3.5%; this is the biggest rate cut seen in 18 years. Furthermore, there is additional speculation that the rate will again be reduced by another 50 basis points (.50%) at the next FOMC meeting.

So what does this mean to you?
The Fed funds rate is the overnight interest rate that banks charge each other to borrow money. A lower rate makes it more attractive for banks to borrow from one another. In another bit of good news, the BBA (British Bankers Association) lowered London Interbank Rate (LIBOR) below the Fed funds rate. The LIBOR is tied to many adjustable rate mortgages.

Now that the banks pay less interest to one another, this savings makes its way down to you, the consumer, in the form of lower interest rates on credit cards, equity lines, and adjustable rate mortgages. And when you are paying less interest, dear consumers, you can borrow more money as well as spend more money to boost the economy. This is how rate cuts can spur the economy.

But what about the 30 yr fixed mortage rate?
Currently US fixed mortage rates are the lowest they have been since September 2005. However, a Fed Funds rate cut only indirectly affects 30 year fixed (long term interest rates) mortgages; mortgages rates eventually moved down in sympathy with the Fed's moves. Lower rates mean more people can afford to buy houses and more people are able to refinance. Homeowner's in turn boost the economy because with a new home comes all the accoutrements (e.g. new furniture, new lawn equipment, and new carpet.)

Will the trend continue? We'll find out soon enough with next FOMC meeting at the end of January.

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