Low Interest Rates Permeate Economy

Article excerpt

Call it the Alan Greenspan low-interest-rate diet. Yes, fat-free borrowing.

Low interest rates have now percolated through the entire economy: housing, retailing, corporate borrowing, auto loans, and government loans. In a nation that borrows $20.7 trillion per year, this has meant an enormous savings. Compared with only three years ago, Americans are now paying $500 billion a year less. In fact, compared with just a year ago, they are saving $300 billion a year - close to the total six-year tax cut that just passed Congress.

When the Federal Reserve meets at the end of this month, many economists expect the Fed to drop interest rates by another 1/4 of a percent. This would bring the Fed Funds rate, a short-term rate, down to 1 percent - the lowest rate since the 1950s, when the Ozzie and Harriet generation were learning about savings accounts.

"It has kept the economy afloat," says Bill Sullivan, a money- market economist at Morgan Stanley in New York.

Monday, a new round of reports painted a mixed view of the economy. In April, construction spending slowed to its lowest level in four months. But a May survey of manufacturers found that the slowdown in business was easing somewhat. The reports were in line with others last Friday, which showed consumer spending and income flat in April but confidence improving in May.

Although the stock market interpreted the economic news favorably, Bob Brusca, an economist with Native American Securities, says the data continues to show "little evidence of a building rebound or gathering of momentum."

The bright spot

Through these ups and downs, one bright spot for consumers has been interest rates. That's a change from the past, thanks to a major shift in the way Americans view borrowing and money. Thirty years ago, Americans were quite conservative - thinking only in terms of 30-year fixed-rate loans or five-year term loans for an automobile. But now there are scores of bank loans that are linked to short-term interest rates, such as a Treasury bill or the prime- interest rate (the rate charged to the best corporate customers).

"The household sector now has the ability to raise money, to borrow against short-term interest rates," says Mr. Sullivan.

Take adjustable-rate mortgages (ARMs), which three years ago accounted for 25 percent of all new loans, according to the Mortgage Bankers Association. As short-term rates have dropped, so have the rates on ARMs. Three years ago, the rate on a one-year ARM with a 30- year amortization was 5.84 percent. On a $200,000 loan, this was a monthly payment of $1,177. Today, the same rate has shrunk to 3.09 percent, or an $853-a-month payment. This 27.5 percent drop represents "a real opportunity for those who have taken advantage of it," says Jay Brinkman, an economist with the MBA. …