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How interest rates affect you
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May 18, 1999: 5:26 p.m. ET
Higher rates could mean more expensive loans, lower stock prices
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NEW YORK (CNNfn) - The Federal Reserve Board's decision Tuesday to lean toward tightening interest rates could make your next car or home more costly.
A wide range of loans take their cue from the closely-watched fed funds rate, which the central bank has left unchanged since November. The current 4.75 percent rate is the lowest in almost five years.
A hike in the fed funds rate tends to cause a domino effect, in which lower bond prices and higher yields prompt increases in a variety of lending rates.
"Interest rates are the raw material," said Mauryn Allen, chief economist at Scudder Kemper Investments. "If they go up, the cost of the end product rises as well."
Different types of loan rates are linked to different Treasury bills, depending on the length of the loan.
Mortgage rates, for instance, are usually influenced by the yield on the 10-year Treasury, since many consumers do not abide by the full life of their mortgages and refinance their homes after 10 or 15 years. Similarly, car loan rates are usually linked to the 5-year Treasury since that is the typical length consumers borrow to buy a vehicle.
Credit cards "tend to have more of a life of their own," said Ethan Harris, senior economist at Lehman Brothers.
While credit card rates tend to go up with interest rates, they may also be influenced by other factors, such as competition between lenders. Furthermore, it is rare for credit cards to adjust their rates downward when interest rates drop.
What's good for the goose…
On a more upbeat note, higher interest rates tend to translate into improved returns on savings.
When the Federal Reserve boosts interest rates, banks usually follow suit.
As a result, those holding savings accounts, interest checking accounts and money market funds benefit from higher returns.
… Not good for the gander
Conversely, those invested in equity markets may not be so lucky.
Many analysts believe a hike interest rates, or even a bias shift towards tightening rates, could prompt a correction on Wall Street, with some projecting a retreat of as much as 10 to 20 percent.
With an estimated half of the U.S. population invested in stocks, such a correction could cool consumer spending, in effect putting an end to the so-called wealth effect that has allowed consumers to buy more on the belief that they are richer because their portfolios are registering such impressive gains.
"Rising rates could have a tremendous impact on slowing consumer spending. Consumer spending has been about 6 percent, when adjusted for inflation," Harris said. "Rising rates could bring it down to 2 or 3 percent."
Strong consumer spending has been a big catalyst for the record economic growth of recent years.
Another indirect effect of higher rates on consumers could be higher unemployment.
"If interest rates rise too much, it tends to cost companies more and they may limit expansion plans. That means fewer jobs," said Allen.
But other economists contend that as long as the Federal Reserve does what it is supposed to -- keep the economy on track -- consumers have nothing to worry about.
"The consumer is best served by the Fed doing its job," John Ryding, senior economist at Bear Sterns. "If the Fed can keep inflation down, there will be job creation and income growth. Those are all important influences." 
-- by staff writer Nicole Jacoby
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