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Personal Finance > Saving and Spending
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What lower rates mean for you
graphic December 11, 2001: 3:11 p.m. ET

Tuesday's quarter-point interest rate cut could improve your financial outlook.
By Annelena Lobb
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    NEW YORK (CNN/Money) - There's no telling whether Tuesday's quarter-point interest rate cut will sow the seeds of economic recovery. But one thing's for sure -- another rate cut makes the cost of borrowing on certain loans even more attractive than it has been.

    To be sure, short-term rates do not affect every type of consumer loan. But the Federal Reserve's 11 consecutive cuts this year have already produced a spike in the number of low-interest bank loans and a surge in the popularity of home equity lines of credit. The Fed slashed short-term interest rates again Tuesday to 1.75 percent, bringing them to their lowest level in 40 years.

    Whether it's buying a house or car, refinancing your mortgage or borrowing from your home to pay off high-interest debt, experts say this could be the time to make your move.

    What does it mean for you?

    Indeed, those in the market for a new car could reap the benefits of what already is considered a buyer's market. That's because many consumers are taking advantage of zero-percent financing deals by securing a bank loan to pay off the car.

    Here's why: Zero-percent auto loans, not surprisingly, often require borrowers to play by strict rules. By securing a personal loan instead, consumers can pay off the dealer, set their own financing terms and still enjoy the lower-than-average interest rates offered by the bank.

    Read CNN/Money's in-depth report on the Fed

    "Bank loans have pretty attractive interest rates these days. Typically, these zero-percent rates on auto loans are for a short term, say three years, and on more expensive vehicles," said Fritz Elmendorf, vice-president of the Consumer Bankers Association. "People end up buying the car, but use a bank loan to do so. Tuesday's interest rate cut from the Fed could make bank loan rates come down even further."

    Elmendorf said you also will see lower rates on home equity lines of credit because of Tuesday's interest rate cut. Home equity lines differ from home equity loans -- a home equity line is a credit line with a variable interest rate that's pegged to the prime rate. Home equity loans are typically 10- or 15-year fixed-rate loans.

    "Any change in rates on home equity lines is directly related to the actions of the Fed," Elmendorf said. "On average, their rates are 1 percent over the prime rate, but some banks even offer home equity lines at the prime. Home equity lines are probably the cheapest way that homeowners can currently borrow money."

    Tuesday's interest rate cut also begs the question of whether mortgage rates will become even more attractive. This year's rate-friendly environment has prompted a record volume of mortgage originations and refinancings. The total volume of mortgages for this year will reach or surpass $2 trillion. The previous record was in 1998, when total volume of purchases and refinancings reached $1.5 trillion, according to the Mortgage Bankers Association of America (MBAA).

    But experts say a drop in mortgage rates does not necessarily follow a cut in interest rates issued by the Fed.

    "A cut...won't affect the 30-year fixed mortgage rate at all," said Lawrence Yun, a senior economist at the National Association of Realtors. "According to Freddie Mac, the 30-year fixed rate was 6.8 percent last week, and we think it'll stay about the same. But another interest rate cut could mean a slight drop in the short-term one-year adjustable rate mortgage (ARM)."

    Doug Duncan, chief economist at the MBAA, said other economic indicators have a far greater effect on mortgage rates than the interest rates set by the Fed. He said if the Fed cuts rates and mortgage rates drop at the same time, people often make the error of largely crediting the Fed for the change.

    "In May 2000, mortgage rates were at 8.6 percent," Duncan said. "They reached 6.8 percent by January 2001 -- so they had already dropped well in advance of all the Fed's rate-cutting. There's just no close relationship between the two."

    What you can do

    If you carry a balance on your credit cards, you might also get a breather from the Fed this week. Experts said 60 percent of credit cards have variable interest rates that are tied to the prime or some other short-term indicator, so those can be expected to drop, unless they have an already-set limit. But you could also save money by taking out a low-interest bank loan, such as a home equity loan, to cover high-interest debt like a credit card balance.

    If you've been thinking about taking out or refinancing a mortgage, experts say you've missed the rock-bottom rates that prompted the recent spree, but it's still a good time to do so.

    "Refinancing is usually associated with the 30-year fixed mortgage rate," said NAR's Yun. "Because we don't think that will change, the number of refinancings out there will probably stay stable."

    Refinancing is a particularly good way for homeowners to save money. Aside from taking advantage of lower interest rates, homeowners can refinance to withdraw cash or equity from the home, shorten their mortgage term or switch from an ARM to a fixed-rate loan.

    "Rates are around 7 percent right now," the MBAA's Duncan said. "For a lot of people, that's still very good. If they took out a loan last May at 8.6 percent, for example, refinancing now could be a smart move." graphic

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