The Federal Reserve Bank steadily increased interest rates throughout 2022. Business owners are now paying a higher annual percentage rate (APR) on a business line of credit, but they’re also collecting a higher annual percentage yield (APY) on their interest-bearing checking account. Does the latter balance out the former? It depends on the funding needs and cash flow management of your business.
What do low interest rates mean?
Interest rates were historically low during the 2020 pandemic and throughout the early stages of the economic recovery that followed. That facilitated cheaper borrowing for small businesses, which was part of the intent in keeping rates low. Of course, it also meant lower payouts on business checking and savings accounts, somewhat balancing the scales.
There’s also a correlation between interest rates and the stock market. Lower rates mean that the business cost of capital is lower, fueling growth. That can affect your small business directly for obvious reasons, but it can also generate higher returns for firms that have an equity portfolio. The S&P 500 returned 28.41% in 2021 if you calculate in dividend reinvestment.
What do high interest rates mean?
Higher interest rates require a shift in corporate financial management. The cost of business capital is high, so growth can be somewhat limited if your company doesn’t have significant cash on hand. Holding that cash in an interest-bearing business checking account can produce a moderate APY income. Cutting costs can increase that income.
The stock market, as you might expect, typically does not perform well when interest rates are high. That’s evidenced by the year-to-date returns of the S&P 500 in 2022. As of this writing, the index is down 16.97%. That’s not entirely due to interest rates, but they are a significant factor. When borrowing costs are high, business growth and market returns are low.
What is inflation?
Inflation is an increase in prices for goods and services. It’s measured in the United States by the Bureau of Labor Statistics (BLS) Consumer Price Index (CPI). Inflation is typically expressed as a percentage, released monthly to measure price increases on consumer products and services over the previous twelve months. In October 2022, the CPI was 7.7%.
The Federal Reserve Bank increases interest rates to slow down the rate of inflation. How does that work? Higher interest rates lower demand because consumers can’t afford to spend or borrow money. That forces businesses to lower their prices, which seems to be working in the current climate. The CPI in June 2022 was 9.1%, so the numbers were headed in the right direction as they lowered toward the end of 2022.
There are a number of ways small businesses can combat inflation themselves, including using data analytics to make strategic decisions about pricing and more.
Direct ways interest rates can impact your business
An increased cost of taking on debt discourages businesses from borrowing and causes them to seek other options for funding their company. At the same time, higher APY earning makes the use of interest-bearing business checking and savings accounts more attractive. Lower interest rates have the opposite effect in both borrowing and saving.
Indirect ways interest rates can impact your business
The Federal Reserve Bank’s strategy on interest rates may eventually drive prices down for consumers, but it limits their purchase bandwidth in the short run. Prices are still high and now borrowing costs, including credit card rates, are also high. It will take time for that to level off. In the meantime, businesses may unfortunately pay the price for it.
While interest rates are high, though, you can take advantage of a high-yield business checking account to maximize your earning potential.