Here’s why an interest-rate increase is inevitable

Tracey Samuelson Sep 15, 2015
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Here’s why an interest-rate increase is inevitable

Tracey Samuelson Sep 15, 2015
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Come Thursday at 2 o’clock Washington time, the Federal Reserve will announce … something. Whether it will raise interest rates or let them stay at current levels a bit longer is the economic question of the year. But here’s another one: Why do they have to raise rates at all?

“Eventually, they’ve got to come up,” says Ken Kuttner, an economics professor at Williams College. “The only question is when.”

Kuttner says while consumers and companies might like to borrow money at cheap rates, savers don’t like the low returns they’re seeing.

Plus, there are dangers to leaving rates too low for too long.

“Many don’t remember, but in 1979, 1980, inflation was running near 15 percent, eating up purchasing power and forcing a short-term perspective on business,” says Carl Tannenbaum, the chief economist at Northern Trust.

Fear of inflation is one reason the Fed will eventually raise rates; if interest rates are low, people spend money instead of save, and that drives up prices. 

Reason No. 2 is the potential for risky behavior, says Ann Owen, Hamilton College economics professor.

“When it’s really, really inexpensive to borrow, people will borrow and take on risk that they would not otherwise take when interest rates are at a more normal level,” she says. That could result in bubbles in the stock or housing markets.

But while waiting too long to raise rates could cause inflation or bubbles, Owen cautions if the Fed acts too soon, it could cool a still recovering economy. 

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