ROANOKE TIMES
Copyright (c) 1995, Roanoke Times
DATE: Thursday, December 21, 1995 TAG: 9512210094
SECTION: BUSINESS PAGE: B-8 EDITION: METRO
DATELINE: NEW YORK
SOURCE: KAREN GULLO ASSOCIATED PRESS
A cut in prime lending rates at banks nationwide Wednesday was a stocking stuffer for businesses and consumers: It will knock a few bucks off January's credit card bills and other loan payments at many households.
Big savings on the cost of paying off loans probably could reach consumers by summer, economists said. Most believe the Federal Reserve will continue to shave key interest rates next year, which will lead banks to reduce prime lending rates even further.
``This move is going to end up being part of a bigger move later on,'' said James Coons, vice president and chief economist at Huntington National Bank in Columbus, Ohio.
The nation's banks cut the prime lending rate to 8.5 percent from 8.75 percent after the Federal Reserve's decision Tuesday to lower a key short-term interest rate. The Fed reduced the federal funds rate - the interest rate banks charge each other for overnight loans, to 5.5 percent.
The move was designed to get the sluggish economy percolating again by making it more attractive for people and businesses to borrow and spend money. When banks' own borrowing costs fall, they usually lower the interest charged on loans.
The prime, once the rate banks charged their most creditworthy customers, has become a benchmark for many consumer and business loans.
Rates on credit card, auto, home equity and small business loans are set by adding to the prime rate. So when the prime falls, so do a set of other interest charges.
More than $225 billion of the $350 billion owed on bank credit cards is directly tied to the prime rate, according to RAM Research Group, a Frederick, Md.-based firm that tracks credit cards.
The rate cut will save American credit card holders at least $500 million in interest charges in 1996, said Robert McKinley, RAM's president.
Families will get the savings right away. About 65 percent of all cards with variable rates are adjusted quarterly, about 35 percent adjust monthly, and the rest change rates annually. Some home equity and other personal loans also are adjusted quarterly.
That means many consumers will see lower interest charges on their January bills.
``The timing is very good for the consumer,'' said McKinley.
Borrowing has ballooned 30 percent in the past few years, with consumer debt topping $1 trillion in October, according to the most recent Fed data. Some people have gotten in too deep: Recent surveys show more people are late in paying off bills or are simply not paying them back at all.
Lower interest rates could ease the burden of paying off loans, but the Fed's move is a double-edged sword. Rate easings tend to boost consumer confidence, making people more comfortable about spending the money they have, or borrowing more.
``I feel consumers are tapped out on loans,'' said Sung Won Sohn, chief economist at Norwest Corp. in Minneapolis.
Bigger savings on borrowing costs should come later. The economy is expected to grow slowly in coming months, so the Fed is likely to cut rates, once or even twice more, by perhaps 1 percentage point within the next six months.
RATE CUT Q&A
Questions and answers about the Federal Reserve's cut in the federal funds rate Tuesday followed by lowering of the prime rate Wednesday by many of the nation's banks:
What did the Fed do?
It cut the federal funds rate, the interest banks charge each other for overnight loans, to 5.50 percent from 5.75 percent.|
Why?
The Fed is trying to spur economic growth without rekindling inflation. With inflation under control, the Fed's action is aimed at getting the sluggish economy percolating again.|
How does the rate influence the economy?
When the Fed lowers the interest rate banks pay to borrow money, banks often lower their prime lending rate - a peg for many consumer and corporate loans. The cost of credit card, home equity, car and personal loans are all tied to the prime lending rate.|
What can the consumer expect?
With the outlook for economic growth less than rosy, the Fed is expected to continue easing rates early next year. That's when the consumer could see some real benefits. Lower interest rates tend to boost bond prices and lower bond yields. Those yields influence mortgage rates, so people thinking about buying a house could see rates on 30-year fixed mortgages drop.|
Do these small cuts help?
Every time mortgage rates drop a quarter point, it knocks $18 off monthly payments on a $100,000, 30-year fixed-rate loan, according to Bank Rate Monitor, a West Palm Beach, Fla., company that tracks rates.
The monthly payment on a $100,000 mortgage with a 7 percent interest rate is $665, while the payment on the same loan with a 9 percent rate is $805 - a difference of $140.|
Is there a downside to lower rates?
Maybe. If you are planning on putting your money in certificates of deposit, returns won't be as rich as they have been. When banks think the Fed will ease rates, they begin to drop yields on CDs so they're not locked into paying consumers more for long-term deposits at a time when they're making less on loans.
Sensing that the Fed will ease, banks have steadily lowered rates on five-year CDs. On average, the deposits are paying 5.37, a 1.38 percentage point drop from 6.75 percent a year ago, according to Bank Rate Monitor.
LENGTH: Long : 114 lines ILLUSTRATION: GRAPHIC: Charts by KRT. 1. Prime rate. color. 2. Rate cut Q&A.by CNB