WASHINGTON — The Federal Reserve’s three-quarter percentage point cut in a key interest rate Tuesday was designed to make consumer and corporate borrowing cheaper and thereby kick-start the economy, which many fear is spiraling into a recession.
Here are some basic questions and answers about the impact of the Fed’s action:
Q. Will adjustable-rate mortgages become more affordable?
A. The rate cut is good news for consumers with so-called ARMs scheduled to reset soon. ARMs, which typically adjust to market rates every 6 to 12 months after an introductory term, are often pegged to short-term rates such as 1-year Treasury bills or the London interbank offered rate, a global benchmark set in Britain. Those short-term rates track the Fed’s key interest rate and already have fallen over the past month in anticipation of a rate cut.
Q. Is this a good time to refinance a home loan?
A. Experts say it is, especially for borrowers with ARMs and good credit who don’t plan to move anytime soon. Even before Tuesday’s Fed action, rates on 30-year mortgages had fallen to the lowest level since the summer of 2005. There’s no guarantee, though, that mortgage rates will keep falling as the Fed cuts short-term rates.
That’s because long-term interest rates, which influence 30-year mortgages, don’t always move in sync with the Fed’s actions. They could even rise if the Fed is successful in stabilizing the economy and inflation fears accelerate.
“Take your opportunity while it’s here, because it may be fleeting,” said Keith Gumbinger, vice president of financial publisher HSH Associates.
Q: Will the rate cut help borrowers on the verge of foreclosure?
A. No. The Fed’s rate cut won’t be of much assistance to borrowers with shaky, or subprime, credit, who want to escape their high interest rate home loans. Lenders have become wary of those borrowers after defaults and foreclosures soared last year. “There’s just not a whole lot of credit available,” said Greg McBride, senior financial analyst with Bankrate.com.
Q. How will the Fed action affect the interest rate on credit cards, home-equity loans and car loans?
A. After the Fed’s rate cut Tuesday, banks quickly cut their prime rate — the rate they charge their best customers — to 6.5 percent. The prime rate also serves as a benchmark for credit cards and home equity loans, and those borrowers will benefit from lower rates. Borrowers with car loans, however, won’t be helped much because those loans typically have four or five-year terms, and borrowers pay a larger share of principal — and a smaller share of interest — every month. So a change in the interest rate doesn’t make too much difference.
Q. What does the rate cut mean for savings accounts and certificates of deposit?
A. Lower interest rates result in lower yields for savings accounts and CDs and are bad news for retirees who depend on those accounts for income. Barry Glassman, a financial planner in McLean, Va., said those investors should be aware of the potential for inflation to erode their buying power, and should consider investments such as securities that guard against inflation.