Why do interest rates rise and how does it affect you?

Why do interest rates rise and how does it affect you?

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The prices of practically any service or good that we acquire they’re rising like they haven’t in 40 years. In addition, interest rates have begun to grow as both phenomena are closely related.

The different central banks of the world, which are the institutions that ensure that prices are stable in each country or monetary area, use interest rates to encourage or discourage consumption.

In other words, this makes it possible to influence inflation levels institutions such as the European Central Bank (ECB) or the Federal Reserve (Fed) raising or lowering rates.

Too high or too low inflation can negatively impact economic development and lead to a recession. Therefore, central banks must seek a balance by tightening financial conditions to control inflation and, in turn, ensuring that the collateral damage to financial stability is minimal.

Reasons for these uploads

Prices have not only increased in Spain, but it is a global phenomenon. The CPI has skyrocketed in our country, in the eurozone and in the United States. The calls bottleneck in global supply chains, caused by the recovery of activity after the pandemic and the harsh confinements in China, caused a mismatch between supply and demand.

Shortly after, they joined fuel, electricity and food prices, which suffered the strong impact of the Russian invasion of Ukraine. Faced with this situation, the response of the main central banks was to start raising official rates. Except in exceptional cases, such as in Japan, interest rate hikes are being generalized with the aim of cooling demand.

The rises in interest rates are being generalized with the aim of cooling demand and curbing the rise in prices

In this sense, the Fed has raised official rates by 150 basis points since March, and intends to place them above 3% before the end of the year. For its part, the ECB plans to raise its rates after 11 years without doing so.

Influence on mortgages

Given this situation, financial markets have tightened financial conditions. This reaction is reflected in the interbank markets and in the Euriborwhich, in a year’s time, has rebounded from –0.50% at the end of 2021 to over 1% in the second half of June.

The 12-month Euribor is commonly used as a reference for the price of variable mortgages in Spain. Although the ECB does not set the Euribor, their decisions have a determining influence. In a way, it can be said that the 12-month Euribor reflects the average at which shorter-term rates are expected to be over the next 12 months, plus a premium.

The notable change in market expectations about how the ECB will act in the face of inflation rates in the eurozone has caused this rise in the Euribor. The turn of the ECB towards a normalization of its monetary policy will increase the mortgage effort in homes. Although given the greater contracting of fixed-rate mortgages, the rise in rates will have a limited impact on recently mortgaged households.

This rise in the Euribor is due to the drastic change in market expectations about how the ECB will act against inflation

CaixaBank Research believes that the general inflation rate in Spain could remain high in the coming months. For this reason, we will have to wait until the end of the year to observe a decreasing trend. In addition, inflationary pressures will force the ECB to gradually and steadily increase interest rates in the coming months.

The study service itself contemplates positive and dynamic growth rates in the short and medium term, placing growth by 2022 above 4%. However, for 2023 it has lowered the forecast growth from 3.8% to 2.4%.

The resilience of the labor market, the savings accumulated during the pandemic, the consolidation of the expansion of the tourism sector and the deployment of the NGEU Program are the main reasons that CaixaBank economists consider for this year’s positive forecast.

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