Consumers love low interest rates, and for good reason—they make loans cheaper and therefore cars, homes, and many other products more attainable.
But now that the Federal Reserve has signaled it may be done cutting rates, that's no reason for a pity party. Low interest rates can bite back, sometimes creating so much demand for goods that inflation becomes an unmanageable problem. And consumers could benefit even if interest rates begin to rise a little bit. Here's why:
It could halt the slide in the dollar. One reason the dollar has been hitting record lows against the euro and other currencies is that low interest rates in the United States make it a less appealing place for foreign investors to put their money. If investors can get a slightly higher rate on European securities than they can on treasury bills, for instance, then they're likely to invest less in the dollar and more in the euro. So if U.S. rates stabilize or rise, that will draw more foreign investment. For American consumers, the upshot from a strengthening dollar is that many goods—especially imports—will get cheaper. And foreign travel, almost prohibitively expensive in some European countries, might once again be within reach.
Oil and gas prices might stabilize. Since oil prices are denominated in dollars, American consumers are at a disadvantage when the dollar is weak: As the value of the dollar sinks against other currencies, as it has been doing, people in other countries can buy more oil for the same amount of money. That increases demand for oil, especially among speculators and investors putting their money into commodities. And as demand rises, prices naturally go up. So if a rise in interest rates strengthens the dollar, that should reduce worldwide demand for oil somewhat, lowering the cost of gasoline, jet fuel, and other forms of petroleum that hit consumers' pocketbooks directly.
Some goods would get less expensive. Just as a stronger dollar makes oil cheaper, it also lowers the price to Americans of goods imported from other countries, since the same amount of dollars will buy more goods from overseas. That pertains to clothing, appliances, and many other everyday products. And by checking inflation in general, rising rates could help lower the price of cereal, eggs, milk, and other groceries, which have been rising far faster than other goods and causing pain especially for lower-income shoppers.
Interest income will rise. One big downside to the Fed's seven rounds of interest rate cuts has been the decrease in returns that low-risk investors—often seniors—get on savings accounts like CDs and money market accounts. Those rates are pegged to treasury securities that are directly influenced by the interest rates charged by the Fed. So if the Fed begins to raise rates, millions of Americans will get a boost to income derived from interest.
We may avoid another bubble. In what, who knows? But with the benefit of hindsight, many analysts now think the meltdown in the housing market began with interest rates that fell too far, too fast earlier this decade. Tumbling interest rates stoked demand for homes, leading to an unsustainable surge in prices and nefarious lending practices that are now well known. Raising the cost of money moderates demand and tends to keep speculators and other forces of instability at bay, whether it's houses, stocks, commodities, or tulips. It might not make anybody rich overnight, but the biggest benefit of rising interest rates may be the next crisis—that doesn't happen.