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Federal Reserve cuts rates

Image source: schab, Fat Jackey, olavs, josefauer, bahri altay, wavebreakmedia, Sanit Fuangnakhon - Shutterstock

What's going on?

For the first time in over a decade – and in a move 80% of investors anticipated – the Federal Reserve (the Fed) cut interest rates by 0.25% on Wednesday (tweet this).

What does this mean?

Lower interest rates make it cheaper to borrow money and should encourage consumers to spend more. Low rates tend to have an even bigger impact on companies, which usually spend the extra money they borrow on job creation and profit growth – leading to an overall boost for the economy.

That boost arguably isn’t needed: the US economy grew faster than expected last quarter, and unemployment in the country is still at record lows. But earlier this year, the Fed said it’d act preemptively to sustain the US’s longest-ever expansion. Add to that the slow rise of consumer prices in June and vocal pressure from the president, and a rate cut was perhaps inevitable.

Why should I care?

For markets: A long-standing tradition comes to an end.

Cheaper access to money today should add up to more profit tomorrow. And the benefits extend way beyond the US: companies and countries that borrow in dollars – either directly, as in emerging markets, or via interest rates linked to the US’s own – should see their costs fall too, helping lift their profits. Stock prices have risen the last 17 times the Fed announced lower rates, but they broke that tradition early on Wednesday – perhaps because US stocks were already near record highs in anticipation of the announcement.

The bigger picture: The Fed blinks first.

When a recession eventually bites, the Fed might find it has less room to support the economy having already cut rates. And it’s not alone: the European Central Bank said last week that lower rates would soon be coming to the eurozone, which has a weaker economy and lower inflation than the US. The Bank of Japan left its already-low rates unchanged on Tuesday, and the Bank of England’s expected to do the same on Thursday.

Originally posted as part of the Finimize daily email.

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