Skip to content

12

Lee Bernstein, Faith Pinho, and Benjamin Schaeffer

The Federal Reserve made headlines last week for its decision to raise the federal funds rate, indicating confidence in a strengthening economy. The Fed increased the interest rate to a range of 1.5 - 1.75 percent. Previously, the range was 1.25 to 1.5 percent. The unanimous decision by the Federal Open Markets Committee to raise the range by a quarter percentage point will affect several sectors in the short-run American economy. As Heather Long wrote in the Washington Post last week, “As the Fed boosts rates on financial institutions, banks turn around and lift interest rates on credit cards, auto loans, small business loans and home mortgages.” In this post, we will look specifically at how the Fed’s interest rate hike will impact credit cards, home mortgages and auto loans.

For many Americans, credit cards an important component of their financial portfolio. It enables many households to make larger purchases that they might not ordinarily be able to make. When the Federal Reserve raised its interest rates this week, many Americans do not realize they will be directly affected. The variable interest rates on most credit cards are tied to the prime interest rate which is determined by financial institutions and is directly correlated to the federal funds rate, which the Fed just changed. There will be increase almost equivalent to the change in the federal funds rates.

Another component to pay attention is the effect of the Fed changing interest rates on auto loans. USA Today, when discussing the market, said “they’re still benefiting from a highly competitive market for auto loans that’s keeping borrowing costs low”. This suggests that this specific change to interest rates may not have as large of an affect on car loans as it could. The same article pointed out that old car loans would not be affected by this change in interest rates. An AutoNews article discussed the car purchasers that will feel this changes are “the ‘marginal buyer’ with poor credit ‘is going to have to take that walk over to the used-car lot.’” So, not every American will be hard hit or feel the affect equally.

For homeowners with adjustable mortgage rates, they can expect a rise in their monthly mortgage bills. A singular rise in the federal funds rate would not significantly impact the mortgage rate, but this week’s rise -- in tandem with the two other expected hikes in 2018 -- would truly impact homeowners’ monthly payments. Economists at CNBC predicted that the average mortgage rate could rise from 4.58 percent to 5 percent by the end of the year. “Although your bills might not change too much after Wednesday's bump,” journalist Emmie Martin writes, “things can start to add up after a few more.” To avoid rising rates, Martin recommends switching to a fixed-rate mortgage. Current rates are favorable enough to justify making the switch.

Many industries will be affected by the Federal Reserve’s recent changes; however, as discussed in class, it will take up to two years to see the full effects of the interest rate increase. As the New York Times mentions, during this FOMC meeting, it was “signaled the central bank is set to raise it at least two more times this year”. But, the same article goes onto say how, these increases means that there is an “increased expectation for economic growth”. Like class discussion brought up, this increase sheds insight into Jerome Powell’s mindset given that this was his first FOMC meeting as president of the Federal Reserve.

12

Lee Bernstein, Faith Pinho, and Benjamin Schaeffer

Everywhere one turns there is more information and updates about the state of the economy. President Trump regularly comments on the Dow’s performance; yet this week the White House was assuredly disappointed in its underperformance - “DOW slides as US stock Market Suffers Worst Week in Two Years”. This past week, the Dow Jones Industrial Average, the most recognized stock market index, negatively affected other global indices, but why?

On February 2nd, the Bureau of Labor Statistics released an upbeat jobs report for the month of January. Over 200,000 jobs were added - although unemployment remained unchanged at 4.1%. While these numbers sound great to the layman, the markets did not expect such a promising report amid fears of increases in central bank interest rates. The United Kingdom’s FTSE 100 and Japan’s NIKKEI 225 plunged with the DOW. There is no surprise that if one market does poorly, especially unexpectedly, that the others will respond negatively, but for the average person it seems counterintuitive that an increase in labor participation would be a negative for Wall Street.

The problem lies with countries’ central banks. When the economy is doing well, the Fed or its counterparts around the world (like the Bank of England and the Bank of Japan) begin to increase increase rates, so that the economy does not grow too quickly. Just last week, the Bank of England hinted at raising its interest rates earlier than expected. In a recently published article, the BoE chief stated that interest rates increases would not be as high as reports suggested at the end of the last week.

This graph displays the FTSE, the DOW and the NIKKEI for the past two years. It shows how they seem to mirror each other. When one spikes or dips the others have a similar movement.

It is no shock that the world has become increasingly more interconnected in this century, and the stock market is no exception. In attempts to diversify stock portfolios, there has been an increase in the purchasing on international stocks, further entangling the economies of countries around the world. Due to the strength of the U.S. market many countries display great interest in what the DOW does because of interconnectedness between markets.

As the graphics below show, interest in the indicies, as measured through Google searches about them, saw a great uptick. We looked at Google search trends in the United States, Japan, and the United Kingdom. Both Japanese and British Google searches showed higher interest in their respective stock indices but also a fair amount of interest in the Dow Jones. On the other hand, Americans were only searching about the Dow Jones' performance.

This graph shows general Google search interest from users in the United States. The Dow Jones is in blue. The FTSE 100 in red and the Nikkei 225 in yellow. Google searches related to the Dow Jones were at their highest level this past week. There was minimal search interest in the Nikkei and almost no users were actively looking for information pertaining to the FTSE 100.
This graph shows general Google search interest from users in the United Kingdom. The FTSE 100 is in red. The Dow Jones is blue and the Nikkei 225 in yellow. Google searches related to the FTSE 100 were at their highest level this past week. There was considerable interest in the Dow's performance and almost no users were concenred with the Nikkei.
This graph shows general Google search interest from users in Japan. The NIkkei 225 is in yellow. The Dow Jones is blue and the FTSE 100  in red. Google searches related to the Nikkei were at their highest level this past week. There was considerable interest in the Dow's performance and while there was some interest with the FTSE 100, it is almost immeasurable.

The variation in the stock market this past week shows how sensitive the international markets are to slight fluctuations in domestic economies. The week began with a slew of news articles and updates about the Dow Jones’ severe downturn, with The Guardian citing it as the “worst week in two years.” As a previous post on this blog explained, the Dow Jones was responding to an expectation of the Federal Reserve’s change in interest rate as well as a surprisingly positive monthly job report. Markets continued to fall as Jerome Powell took his seat as the fed’s new chairperson. And yet, the week ended on an upswing, with the Dow Jones closing at the relatively normal 24,190.90.

Such fluctuations actually evidence a healthy ebb and flow of the international economy. Traders have grown accustomed to a less volatile market in recent years, but history shows that the stock market experiences peaks and troughs regularly within a week. But the influx of news articles on the Dow Jones and international markets last week would indicate otherwise. The mass media covered every slight fluctuation in the stock market last week, giving too much attention to small changes and neglecting to give the markets’ overall context. With such a sensitive, complicated and interconnected stock market, the general public should not be shocked by this kind of movement in the markets.