Economic Forecasts

How the Fed's Moves Affect You

It’s pumping trillions of dollars into the economy and keeping rates near zero. Savers are sunk, but borrowers get a boost.

Not all that long ago, the only major decision the Federal Reserve Board had to make was where to set short-term interest rates. But in the past decade, the Fed has become increasingly aggressive in its efforts to pump up the economy—and there’s no sign it will slow down anytime soon. Whether you’re a borrower, saver or investor, this matters to you.

Some history: As the economy cratered in 2008, the Fed made the unprecedented move of purchasing large sums of Treasury bonds and mortgage-backed securities, which pumped an extra $1 trillion into the economy. Over the course of the next 10 years, it purchased an additional $2.5 trillion. Then, when the coronavirus crisis hit, the Fed purchased another $3 trillion in bonds and securities, bringing its liabilities so far to a record $7.2 trillion. (The total size of the U.S. economy is currently $21.5 trillion.)

And the Fed isn’t done. It now has the authority to support up to $2.6 trillion in new lending, which includes making loans to businesses through its Main Street Lending Facility and lending to city, county and state governments through its Municipal Liquidity Facility. The Fed is also backing loans issued through the Paycheck Protection Program, a federal loan-forgiveness program designed to help small businesses survive the coronavirus pandemic.

As for interest rates, it’s likely they will remain low for a very long time in order to encourage borrowing and keep the money flowing. Fed chairman Jerome Powell announced at the June 10 meeting of the Federal Open Market Committee that the corona­virus could continue to have an impact on the economy for the next two years and that the Fed isn’t likely to raise interest rates until 2023 at the earliest. If inflation remains contained, rates could stay low for even longer. However, although the European Central Bank has experimented with negative interest rates by allowing commercial banks to borrow at negative 1%, the Fed isn’t inclined to go that far.

Good news, bad news. Borrowers will benefit from the low-rate environment. The 30-year fixed mortgage rate is likely to remain below 4% for the foreseeable future (although home prices typically rise faster when rates are low). Auto, home-equity and other consumer loan rates will also likely remain at historic lows.

The news is not good, though, for savers and income investors. Bank deposits, certificates of deposit and short-term U.S. government securities will pay almost nothing. Returns for longer-term government and corporate bonds will also be much lower than historical norms. Annuities and life insurance premiums will cost more, because the insurance com­panies that back those products are earning less in the fixed-income markets where they invest those proceeds.

The stock market has typically celebrated low interest rates, but low rates are a mixed blessing for investors in general. The stock market is now the only game in town for those looking for decent returns on their retirement savings. But without a bond market that provides a reasonable rate of return, it will be more difficult for investors to protect themselves from market downturns by investing in a mix of stocks and bonds. Investors seeking higher returns may be driven into much riskier investments, such as high-yield junk bonds, commodities and private equity.

Consider investing in high-quality dividend-paying stocks, which may yield more than fixed-income investments while providing some ballast in down markets. 

The Fed's money machine

Unlike the rest of us, the Fed doesn’t have a budget constraint. It can buy assets by writing checks on itself. Because the Fed doesn’t ever have to pay off its liabilities, it can never go bankrupt.

So what’s to prevent the Fed from creating as much money as it wants? Again, nothing. The only problem with creating money is that it might cause inflation, as more paper and electronic dollars chase a slowly growing supply of goods and services. This is what has caused hyperinflation in smaller countries in the past.

But so far, that hasn’t been a problem. In the past decade, no matter how many securities the Fed has purchased, inflation has remained stubbornly low, breaching 2% only when oil price run-ups occurred. The mechanisms that drove inflation in past decades don’t seem to be working the same way anymore, and for that reason it appears that inflation is going to remain low for some time to come.

Most Popular

12 Costs of Owning a Cat
how to save money

12 Costs of Owning a Cat

Housecats may be known for their aloofness and low-maintenance attitude, but they're not cheap. Here's what you can expect to spend if you plan on ado…
October 16, 2020
How to Pick the Right Medicare Plans for You
Healthy Living on a Budget

How to Pick the Right Medicare Plans for You

As you're signing up for Medicare, you must learn the basics of Medicare Part A, Part B, Part D, medigap plans, Medicare Advantage plans and even doug…
September 30, 2020
Election 2020: Joe Biden's Tax Plans
taxes

Election 2020: Joe Biden's Tax Plans

With the economy in trouble, tax policy takes on added importance in the 2020 presidential election. So, let's take a look at what Joe Biden has said …
October 15, 2020

Recommended

PPP Loan Forgiveness Applications are Now Easier
Coronavirus and Your Money

PPP Loan Forgiveness Applications are Now Easier

Small businesses that received PPP loans of $50,000 or less can now apply for forgiveness using a simplified application form.
October 16, 2020
Stay on Course With Student Loans
Paying for College

Stay on Course With Student Loans

You may be eligible for deferment if you receive unemployment benefits or are unable to find a full-time job.
August 27, 2020
8 Tips and Warnings on PPP Loan Forgiveness
loan forgiveness

8 Tips and Warnings on PPP Loan Forgiveness

Not having to pay back Paycheck Protection Program loans is a huge benefit for small-business owners. But there are a lot of rules that must be follow…
July 21, 2020
8 Benefits for Healthcare Workers, First Responders in the HEROES Act
loan forgiveness

8 Benefits for Healthcare Workers, First Responders in the HEROES Act

Parts of the massive federal stimulus passed by the House of Representatives focus on workers on the front line of the coronavirus battle.
May 21, 2020