Interest rates play a key role in many important financial decisions, from how much debt costs to what you can earn on investments. Understanding how they work can help you make savvy choices that fit your life and goals.
In short, interest rates determine how much it costs to borrow money and how much you get paid for lending it to others. For example, when you take out a mortgage or credit card, you pay the entity that lends you money something extra to compensate for taking on the risk of lending you that money. This extra is called interest, and it’s typically expressed as a percentage of the principal over a given period of time.
The reason interest rates vary has to do with the state of the economy, and how the Federal Reserve (the US central bank) sets monetary policy. High rates make it more expensive to borrow, which can slow economic growth and reduce consumer spending. Conversely, low rates can stimulate borrowing and encourage economic activity.
There are also some factors that can influence the interest rate on a loan or investment, including credit history and the term of the loan. Whether you choose a fixed or variable interest rate is a choice that depends on your own financial situation, risk tolerance and long-term planning goals. A good place to start is to evaluate your options, possibly consult with a financial advisor, and then select the rate that best fits you.