In her third article marking Financial Literacy Month, Martha Harris Myron looks at interest rates in the US an elsewhere and their impact on capital markets and our investments. Martha is also hosting a financial literacy essay contest for five age groups of Bermuda residents. See full details by opening the document under the heading “Related Media” on this webpage.

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How do global interest rates affect the individual’s everyday financial life and investment portfolios, as well as choices of, and management of investments?

Last week, the New York Federal Reserve Bank released its March 2022 Survey of Consumer Expectations, showing that one-year-ahead inflation expectations rose to 6.6%, driven by concerns over the effects of “Putinflation” on consumer prices: energy, vehicles, rent, real estate, labour, food, education, and interest rates. Further, the report noted that many Americans are increasing their use of credit cards, racking up consumer debt even though credit availability has decreased.

First thought after seeing these numbers is, what else could be expected when an unprovoked Russian invasion of Ukraine has decimated the ability to harvest food products, along with multiple countries enabling severe sanctions to turn the tide back to peaceful coexistence, has raised the cost of energy and commodities and related supply demand.

Lots of noisy huffing and puffing, political finger pointing, blame, and economic hand-wringing featured in business and social media across the global spectrum, but far less talking about practicalities.

Meanwhile, the estimated tens of thousands of Ukrainians, whose ordinary lives have been tragically and abruptly terminated, will never have to worry about inflation again.

So, why would Bermuda islanders want to know about what’s happening economically elsewhere? We’ve always had inflation of one sort or another.

Because we Bermuda islanders, albeit in a smaller economy – in many, many respects – are mirror images of our significantly larger neighbouring country. Further, the world is more interconnected now than it has ever been. What happens economically elsewhere will impact here, in one form or another.

The United States Federal Reserve is taking action on this latest inflation surge by using the monetary tools at its disposal in managing cash/credit supply, thus controlling spending.

Has the US Fed always done this and why is it so important to control inflation?

The US Fed, established in December 1913, has numerous responsibilities: directing its policies towards achieving maximum employment and price stability to protect consumers; reporting regularly to Congress on monetary policy; evaluating banks on their performance in meeting the credit needs of low- and moderate-income communities in the markets they serve: providing liquidity and elasticity in money supply; buying and selling US government securities; greater control over the growth of the nation’s money supply by mandating banks to set reserve requirements; reducing inflation and ensuring market functioning in mitigating large economic shocks during major financial crises and recessions; maintaining and managing financial stability; and other increased oversight responsibilities through the years mandated by various US financial legislation.

Inflation impact: rising prices decrease your purchasing power, borrowing costs accelerate, a cause of hardship for families whose income does not keep pace with inflation while others spend more in anticipation of higher prices, may or may not increase unemployment, also termed as spending outpacing the production of goods and services, while current issues of fewer and short supplies of necessary commodities, shipping inabilities, and the Ukraine invasion sanctions have enhanced the inflation impact.

The US Fed regulates the economy in three ways:

• Open market operations – the buying and selling of government securities

• The discount rate – managing the interest rate charged by the Fed reserve banks to depository institutions

• Reserve requirements – dictating the percentage portions of consumer deposits that banks must maintain in vaults or at the Fed.

On March 16, 2022, the US Fed raised the discount interest rate by a quarter of a percentage point, or 25 basis points, indicating that they may raise rates six more times this year, steps designed to decelerate pricing, slowing inflation.

What does it mean to consumers?

Negatives

• Borrowing costs more, possibly depressing the credit markets

• Goods and services cost more – encouraging consumers to spend less

• Real estate activity lessens as it cost more to finance a mortgage, particularly impacting first-time homebuyers

• Refinancing rates and costs increase

Positives

• Savings accounts earn higher returns

• Inflation comes under control

• Investing may become more focused on capital market security fundamentals, rather than “becoming a quick millionaire”

• Possible stronger dollar strengthening, good for imports

• Bond portfolio interest rates will boost fixed income returns

What will be the effect be here in Bermuda?

Bermuda does not have a central bank that manages monetary policy.

Local banks may be influenced by US Fed policies relative to their own Treasury activity, consumer loans and investments in international markets.

Mostly, it will simply come down to a personal level of financial responsibility.

It is up to you!

• Be aware on a continual basis of changes in your household weekly spending patterns and react quickly to overspend patterns

• Conserve spending

• Think quality over quantity to enjoy a life of sufficiency. How much do you really need?

• Keep saving – since interest rates on savings, dividends or money market funds should increase as interest rates rise

• Manage your budget as you have always done to maintain as much financial independence as you can.

That means embracing financial literacy every day to maintain your financial health.

When you understand the impact of changing economics, you can plan your finances better, as well as having a contingency plan in place.

Next: How, why, and what to do, if anything, about this latest capital market disruption affect on your personal investments?

Don’t forget! Enter the financial literacy essay contest. Hint – the four words are the same word. Guess the word. See the attached application.

References

New York Fed, https://www.newyorkfed.org/newsevents/news/research/2022/20220411

The Survey of Consumer Expectations (SCE), https://www.federalreservehistory.org/essays/federal-reserve-history#inflation

• Martha Harris Myron is a former qualified international financial planner, and the author of The Bermuda Islander Financial Planning Primers Series. Book One – the Dawn of New Beginnings: A Back-2-Basics Financial Review to Dramatically Improve Your Lifestyle. Contact martha.myron@gmail.com