Whether you’re a small business or a large multinational, changes in the economic environment affect everybody. Typically, businesses benefit from lower interest rates because in that case, there would be less of a cost to borrow. It is allowing room for more money to spend. With more money to spend on your business, you could invest in various areas to expand and grow. If there are higher interest rates, the cost to borrow would be higher. It is causing a business owner to withhold money for investing in his or her business.
To begin with, how do interest rates work in our economy? Interest rates have been used as a tool by the Federal Reserve. They use it to manage and control the state of our macro-economically. If the economy is in a boom, the Federal Reserve may choose to raise interest rates to decrease consumer spending. If the economy is in a recession, or at a lower state, the Federal Reserve may choose to decrease interest rates. So, it will encourage more consumers to spend. What does this mean for business owners?
In December of last year, the Federal Reserve raised the federal funds rate to 2.5 percent. It was the fourth interest rate hike for 2018. Since the Federal Reserve decided to hike interest rates, growth slowed down to prevent hyperinflation.
Therefore, as of 2019, the Federal Reserve has been maintaining the same 2.5 percent interest rate. According to Federal Reserve Chairman Jerome Powell in Paul Davidson’s article from USA TODAY, “The central bank will take a ‘patient approach’ as it weighs future interest rate hikes.” Meaning, the interest rate will most likely remain the same throughout the year.
Higher Interest Rates
Higher Cost of Capital
Businesses that are looking to expand their operations and move towards growth are automatically affected by a rise in interest rate because the cost of borrowing money increases. Business loans usually have a floating interest rate (as opposed to a fixed one), so companies that have already borrowed money are also affected by the hike in the interest rate.
Reduced Purchasing Power for Customers
A higher interest rate translates into less money for discretionary spending. Customers would have to pay high interest on personal loans, car loans, and home loans. With reduced purchasing power, consumer spending is decreased, resulting in businesses potentially suffering from a decline in sales.
Lower Interest Rates
Increase in Business Investments
Businesses can also gain a profit if they invest their money in interest-based accounts. When interest rates are low, capital is likely to be spent on purchasing new equipment and making other improvements due to the lower costs to borrow.
Decrease in Debt
A low-interest rate would benefit customers and/or business owners with monthly payments. For example, with a lower interest rate, a monthly car payment’s principal balance would be paid off higher than usual since less money is being spent towards interest. With a decrease in debt, this would overall boost the state of the economy by encouraging more consumer spending or business investments.
The Bottom Line
Overall, as is the case with most elements that influence the general environment in which a business operates in, there is not much you can do in case of an interest rate hike, except adapt to the changes. Interest rates are constantly fluctuating to stabilize our economy, so it’s important to be informed of a potential interest rate hike or vice versus. If you’d like further information about interest rates or have encountered a situation where interest rates have hindered your business’ growth, consider speaking to a representative from a commercial bank or a private lender to guide and assist you in the right direction.
About Troy Business Group| Melissa Santos
Melissa Santos is a representative from AmeriDream Capital. Troy Business Groupis a full-service business financing firm catering to small to mid-sized business all over the world. A representative could help guide and assist you if needed. If you have any detailed questions, please feel free to visit www.troygrp.com for additional information.
