Interest rates are one of the most important levers that the Federal Reserve has to influence the economy. Changing the federal funds rate can encourage borrowing and spending or slow it down to control inflation. The Federal Reserve raises or lowers the rate to change the amount of money available to banks, which then determines the prime interest rate that commercial banks charge their most creditworthy customers. This is the basis for mortgage loans, car loans and personal loans.
A rise in interest rates makes it more expensive to borrow, which can discourage consumer and business spending. However, the Fed must balance its desire to control inflation with the risk of a recession. The risk is that if the Federal Reserve increases rates too quickly, consumers will begin to stop spending, which could bring the economy to a screeching halt.
Rising interest rates are better news for savers. Savings accounts and certificates of deposit (CDs) typically increase their annual percentage yields when the Fed increases its rates. This can help your savings grow more quickly, which is an important part of wealth management strategies.
Another way the Fed influences the economy is by influencing investor confidence. A rise in interest rates tends to make investors more cautious, which may lead to a fall in stock prices. This effect is more pronounced for long-term investments such as stocks and bonds. This can have global effects, as investor confidence in emerging economies often declines when US rates are high.