NEW YORK (CNNfn) - The Federal Reserve cut interest rates for the seventh time this year on Tuesday, but the word for consumers is not to get too excited.|
Although Fed Chairman Alan Greenspan shaved another quarter point off short-term interest rates, as had been expected, most average folks will see little benefit, if any at all.
Mortgage rates, lending rates and credit card rates are only tenuously related to the changes in the federal funds rate, the short-term rate that the Fed whittled down Tuesday to 3.5 percent. Since January, the Fed has cut the rate from 6.5 percent in an effort to prop up the lackluster U.S. economy.
"There is only an indirect effect for consumers," explained economist Carolyn Scott, a partner at McCoy Scott and Associates in Lisle, Ill.
As with all previous rate cuts, the benefits to individual consumers are not incremental. Yet, although lending rates on credit cards and mortgages don't drop in lock step with the Fed's moves, seven months of chopping has had a positive effect on interest rates in general. But they have not declined as steeply as the Fed cuts.
"Consumer spending is growing only modestly," said Mickey Levy, an economist at Bank of America. "So, it appears the easing of interest rates has helped the consumer only somewhat ... not a lot."
Credit card savings
Savvy consumers might have been able to stow away some additional cash, but few savings measures would have kicked in automatically in the seven months since the Fed started its rate-cutting spree.
For example, few consumers with credit card debt would have seen their
payments drop as a result of the Fed rate cuts because only some cards have adjustable rates. And even those changes don't kick in automatically. Some credit cards with adjustable rates change their rates monthly and others quarterly. But there is a lag between the time rates are cut and when those savings are passed on to consumers.
And the number of consumers who benefit from those rate cuts has been getting smaller over the past few years. Just three years ago, nearly 75 percent of all credit cards had variable rates. Today, fewer than half of the cards issued in the U.S. have variable rates as credit card issuers have increasingly instituted fixed rates on their cards.
Furthermore, banks have been also been instituting floors on interest rates, so on adjustable rate cards there can be a limit on how much savings the cardholder can achieve. According to CardWeb.com, a provider of credit card information, credit card rates have dropped by only 104 basis points since January while the prime rate has fallen by 250 basis points.
A basis point is 1/100 of a percentage point.
The seven consecutive rate cuts by the Fed have reduced overall interest costs on cards by $6.5 billion annually, or $80 a year per U.S. household with credit cards, according to Frederick, Md.-based Cardweb.com.
Americans currently owe about $666 billion on credit cards. Fewer than half of all credit cards issued in the U.S. have variable interest rates. And about 25 percent of all credit cards have floor rates.
The more stunning savings have been in the housing market where many consumers have taken advantage of low mortgage rates to buy new homes or refinance. Although mortgage rates are not tied to the federal
funds rate, which is for very short-term loans, the Fed action has helped to keep them extremely low.
Mortgage rates hit their most recent peak more than a year ago, in May 2000, when 30-year mortgages were hovering around 8.6 percent and 15-year loans were at about 8.3 percent. They began their retreat when the economy started showing signs of slowing.
They have been dropping slowly ever since, encouraged in part by the rate cuts made by the Fed. According to Freddie Mac, the 30-year fixed-rate mortgage averaged 6.92 percent for the week ended Aug. 17. Shorter-term 15-year fixed-rate mortgages stood at 6.48 percent.
By comparison, 30-year fixed-rate mortgages averaged 7.17 percent, with an average 1 point, just before the Fed started its rate-cutting Jan. 3. At that same time, the 15-year fixed-rate mortgage averaged 6.84 percent, with an average 1 point.
Historically, long-term mortgages rarely have fallen far below the 7 percent mark, said Robert Van Order, Freddie Mac's chief economist.
There's no mystery about what the lower mortgage rates have meant for the housing market. Home sales have progressed at a swift pace across the nation as consumers opted to take advantage of the very favorable mortgage rates. Refinancings account for about half of all mortgages originated in 2001.
"The rates are attractive and, although there are no incremental benefits to a rate cut, there have been savings," said Scott.
Scott pointed out that consumers who are buying a home today, as opposed to last December, before the Fed began shaving points off rates, will achieve significant savings.
Assuming a 30-year mortgage on a $200,000 home, anyone who buys today rather than at the end of last year will save about $66 on their monthly mortgage payments, or $23,781 over the life of the loan.
Savings rates drop, too
Pat Jennerjohn, a certified financial planner in Oakland, Calif., pointed out the rate cuts may really be a wash for consumers because interest rates on savings accounts, money market accounts and certificates of deposit also drop when the Fed cuts interest rates.
"As far as instruments like mortgages and credit card rates go, it takes them longer to work rate cuts into the system," Jennerjohn said. "Banks can drop their rates on savings accounts the next day. They have been dropping steadily and I expect they'll drop again."
The average interest rate on money market accounts has been dropping steadily over the past several months and this week touched down at about 3.03 percent, according to Bankrate Monitor.