The Federal Reserve is finally cutting interest rates. What consumers should know

NEW YORK (AP) — The Federal Reserve has cut its benchmark interest rate from a 23-year high, affecting consumer and business debt, savings, auto loans, mortgages and other forms of credit.

On Wednesday, the Fed announced that it had cut its benchmark interest rate by an unusually large half a percentage point to between 4.75 and 5 percent. This would be the first rate cut in more than four years.

The central bank is acting because, after 11 rate hikes since March 2022, it is confident that inflation is finally low enough that it can begin to lower borrowing costs. At the same time, the Fed is increasingly concerned about the health of the labor market. Lower rates would help support the pace of hiring and keep unemployment low.

“Recent indicators suggest that economic activity continues to expand at a solid pace,” the Fed said in a statement. “Employment growth has slowed and the unemployment rate has increased but remains low. Inflation has made further progress.”

Further interest rate cuts by the Fed are expected in the coming months. The extent of these cuts will depend on the development of inflation and employment growth.

What do the Fed’s interest rate cuts mean for savers?

While it might be justified for some to take action now to take advantage of lower rates, such as withdrawing money from a certificate of deposit or refinancing a mortgage, “you shouldn't feel obligated to completely change your financial strategy just because rates are going down,” says Jacob Channel, a senior economist at LendingTree.

“Act cautiously and responsibly,” Channel said, “and don’t make hasty decisions based on a single Fed meeting or economic report.”

As the Fed lowers its key interest rate, returns for savers will ultimately also fall.

“As attractive as savings returns have been recently, it's wise not to hold too much cash because these are short-term investments and their returns are fleeting,” said Christine Benz, director of personal finance at Morningstar. “The really great returns we've had recently could fall even further.”

If you don't need cash right away, you can still lock in what are “still pretty good yields,” she said. In that case, “longer-term certificates of deposit might make sense.”

“Lower interest rates make it harder to maximize savings and preserve the capital you built up while interest rates were higher,” said Matt Brannon, a personal finance expert at MarketWatch Guides. “One simple short-term measure to protect your savings is to move your funds into a high-yield savings account, which offers higher interest rates than traditional savings accounts… This type of savings account still helps you preserve your capital due to comparatively higher interest rates.”

What impact will the interest rate cuts have on credit card debt and other loans?

“While lower interest rates are certainly a good thing for those struggling with debt, the truth is that this one rate cut isn't going to make much of a difference for most people,” said Matt Schulz, credit analyst at LendingTree.

However, the Fed’s falling key interest rate will ultimately lead to better interest rates for borrowers, many of whom are at the highest Credit card interest for decades. The average interest rate is 23.18% for new offers and 21.51% for existing accounts, according to WalletHub's August Credit Card Landscape Report.

Still, “the best thing people can do to lower interest rates is to take matters into their own hands,” Schulz said. “Consolidating your debt with a 0% balance transfer credit card or low-interest personal loan can have a far greater impact on your debt load than almost anything the Fed will do.”

What about mortgages?

The Fed's benchmark interest rate doesn't directly determine mortgage rates, nor is it aligned with them. But it does have a large indirect influence, and the two “tend to move in the same direction,” according to LendingTree's Channel.

Namely, Mortgage interest rates have already fallen before the Fed's predicted interest rate cut.

“This shows that mortgage rates can still change even if the Fed does nothing and just keeps rates stable,” he said.

Channel said the majority of Americans have mortgages at 5%, so rates may have to fall further than their current average of 6.46% before many people consider refinancing.

And car loans?

“With auto loans, it's good news that rates are going to go down, but that doesn't change the fundamental issue, which is that it's still very important to shop around and not just accept whatever rate a car dealer offers you at the dealership,” said Greg McBride, an analyst at Bankrate. “It's also very important to save as much as you can and try to put as much down on the car as you can.”

McBride predicts that the interest rate cuts and the Avoiding a recession will lead to lower auto loan rates, at least for borrowers with good credit. For borrowers with poorer credit, rates will likely remain in double digits for the rest of the year.

Robert Frick, corporate economist at Navy Federal Credit Union, said he thinks a rate cut will have an impact on auto loans, too. But it probably won't happen immediately, and people with higher credit scores will likely benefit first.

According to Edmunds.com, the average interest rate on new car loans is currently 7.1%, while the interest rate on used car loans is significantly higher at 11.3%.

Those rates and still-high prices have discouraged many potential buyers from waiting for rates to fall. That's partly why new-car sales in the U.S. rose a sluggish 2.4 percent through June.

High prices and interest rates have also led to more delinquencies and defaults on auto loans, especially among those with lower credit scores. As a result, Frick said, many lenders will likely try to keep interest rates high to cover potential losses.

“Interest rates will fall, but we should not expect them to fall quickly overall,” he said.

Frick recommends waiting for further interest rate cuts from the Fed if possible, especially if you are buying a used car.

Jeff Schuster, vice president of automotive research at Global Data, expressed doubt that modest interest rate cuts by the Fed would be enough to lure many buyers away from their cars unless automakers offered their own low-interest loans and other discounts.

“I believe there are still some cuts to be made before we can provide substantial relief to these consumers,” he said.

What's going on with inflation and the labor market?

Consumer prices rose by 2.5% in August year-on-year, down from 2.9% in July – the fifth consecutive decline and the smallest since February 2021.

Attitude increased slightly in August and the unemployment rate fell for the first time since March. Employers added 142,000 jobs, compared with 89,000 in July. The unemployment rate fell to 4.2% from 4.3%, the highest in nearly three years.

These signs suggest that the labor market remains stable despite the slowdown.

The pace at which the Fed continues its rate cuts after September will depend in part on how inflation and the labor market develop in the coming weeks and months.

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