Lower Interest Rates — Then What?

The econ­omy has slowed to the point where the Fed­eral Reserve is increas­ingly likely to lower inter­est rates, accord­ing to ana­lysts quoted in a recent New York Times arti­cle. What would this mean?

• Cheaper debt: Pay­ments on credit cards, future mort­gages and stu­dent loans will cost less. But don’t go over­board, of course.
• Increased eco­nomic growth: Lower inter­est rates encour­age busi­nesses to bor­row more money to expand their oper­a­tions. Unem­ploy­ment will fall.
• Higher stock prices: Higher eco­nomic growth encour­ages more peo­ple to buy more stock. (Unless the dol­lar falls too far, as I men­tion below.)
• Ris­ing infla­tion: Increased eco­nomic activ­ity and lower inter­est rates leads to higher prices. Busi­nesses and indi­vid­u­als bor­row more money under these con­di­tions, which puts more dol­lars in cir­cu­la­tion. When more dol­lars flow through­out the coun­try, each indi­vid­ual dol­lar is worth less.
• Falling dol­lar: Lower inter­est rates will dis­cour­age for­eign investors from invest­ing in the dol­lar rather than in other cur­ren­cies. Amer­i­can busi­nesses will sell more prod­ucts in for­eign coun­tries because the dol­lar is cheaper, but it will be more expen­sive for Amer­i­can indi­vid­u­als and busi­nesses to spend money abroad.

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