University of Wisconsin - Extension

When Alan Greenspan and the Federal Reserve Board of Governors speak the whole financial world seems to take notice. But how do their actions affect your finances?

"Mr. Greenspan and the other members of the Federal Reserve Open Market committee meet about every six weeks to review leading economic data and direct the movement of short-term interest rates. Their decisions have a profound influence on the economy and financial markets," says Linda Boelter, Certified Financial Planner, and family financial management specialist for University of Wisconsin-Extension.

"The big question now is will the Fed make another interest rate cut when it meets this month, or is it done cutting interest rates for a while," says Boelter. "So far this year 'the Fed' has cut the federal funds rate by a half percent five times in order to stimulate the economy and avoid a recession. That is a total interest rate reduction of 2-1/2 percent since January."

Essentially, the Federal Reserve's job is to ensure price stability and a growing, healthy economy. It does this by controlling the supply of money and targeting the federal funds rate--the rate at which large commercial banks loan money to each other.

Since most short-term interest rates are priced relative to this rate, the ed has great influence over the cost of all borrowing. To reduce the risk of recession when it senses that economic growth is slowing down, the Fed will make it easier for commercial banks to borrow money by loosening credit and cutting short-term interest rates.

"Lower interest rates encourage more consumer spending, that in turn creates a greater demand for goods and services," Boelter says. "Corporations borrow money to expand, hire new employees and increase production. Stock prices tend to rise as investors anticipate greater corporate profits."

When economic data suggests the economy is growing too fast and demand might exceed capacity, the fed slows the rate of growth of the money supply, which increases short-term interest rates, as it did several times last year. This helps prevent inflation.

"By raising interest rates, the Fed makes it more expensive to borrow" Boelter says. That affects everything from mortgage rates to credit card finance charges. Consumers find it more costly to buy new cars, houses, or furniture. The economy slows as businesses cut back on production and demand drops.

"When interest rates rise, stock prices tend to fall as business profits decline and investors find returns from fixed-income securities more attractive than stocks," Boelter says.

"It is a difficult balance to keep the economy growing--not too slowly and not too quickly--a critical role to maintaining price stability and stable economic growth."

The Federal Reserve was created in 1913 to regulate the U.S. banking system and implement monetary policy--decisions that involve the money supply. There are twelve regional Federal Reserve banks that serve as the nation's central bank. In addition to monitoring local economics that are written.

The Federal Reserve banks also oversee the distribution of new coins and currency.

For more information about how to take advantage of declining interest rates to repay your debts, contact your county UW-Extension Office. Ask for a confidential "Power Pay" computer analysis that can show you how much you can save by refinancing or paying down your consumer debt.