Dr. Rick Franza, Dean of the Hull College of Business, discusses a different, timely business topic each Monday in this column. This week, he talks about the Federal Reserve’s most recent increase in the base interest rate and how that could impact businesses. The interview has been edited for clarity and impact.
ABD: Last week the Federal Reserve raised the base interest rate by another 0.75 percent, the fourth time it’s done that in 2022, making the base rate now 3.75 percent. This is an effort to curb inflation. Can you explain the reasoning behind that?
Rick: They keep raising the rate to make money more expensive in order to reduce the demand for things. If you debt-spend, it’ll cost you more now. For many years, we’ve had “free” money because of the low-interest rates.
They’re trying to cool off a very hot economy. We still have a lot of job openings, which means wages are going up, which keeps demand strong, which keeps prices going up. To break that cycle, you have to reduce demand to slow down inflation.
ABD: The Fed rate has increased by 3 percent in the last six months but inflation is still at a 40-year high. Does that mean it isn’t working?
Rick: Inflation hasn’t come down and this is where things get super nuanced. It’s clear that (Federal Reserve chairman) Jerome Powell and the Fed were late to the game and started raising rates too late. But economists who don’t agree on much all agree it will have an impact. The question is, how much and how soon?
I think we’re in for a long wait. A point Powell made is that the rates aren’t done going up and even when they are done increasing, they’ll stay high for a while. He said they’ll look for indications of inflation decreasing before the rates start going down.
ABD: This latest increase comes just as many people are starting their holiday shopping. How will that affect consumer spending over the next month or so?
Rick: It may not have a huge impact this Christmas but the impact is coming. Generally speaking, people’s and companies’ balance sheets are still pretty good. The question is whether people will start cutting back on spending. I think the impact will be negligible because people tend to spend what they have.
ABD: The Fed rate is only a base rate for lending between banks, but mortgage companies, banks, credit cards, and other lenders all add their rates on top of the Fed’s, meaning much higher interest rates on loans than we’ve seen in a long time. How will this affect businesses and people in general?
Rick: We haven’t felt the brunt of the rate increases yet, but consumers and businesses should be preparing now. It goes back to basics: make sure you have emergency funds in place. If you want to make discretionary purchases, either make them now or don’t plan to buy for a while. It’s good to keep as much cash on hand as you can.
As a business, you need to look at how you can reduce costs without impacting your people too much. The best time to reduce costs is when you’re fat and happy; it’s harder to do once the bullets start flying.
Save your money now. Be like a squirrel preparing for winter and be ready to weather a storm. At least we can see this coming; in 2008-09 we couldn’t see it coming. Plan like you would for a hurricane – prepare for the worst and hope for the best.
