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6 November, 23:25

If the interest rate changed from 2% to 10%, what would happen to the borrowing

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  1. 7 November, 03:04
    Cost of Borrowing: The rise in interest rates question assumes that the cost of borrowing also increases. As the Fed's bond buying slows, it becomes more expensive to borrow money, creating an increase in interest rates ... Crops are a commodity, and commodity prices may actually fall with an increase in interest rates


    Effect on Prices: It is overly simplistic to assume that with an increase in interest rates, there is a concomitant increase in prices. Sure, if a business owner's costs go up because of borrowing, some or all of that cost may be passed on to the customer. But the economy doesn't work in a linear way. Take a farmer, for example. Crops are a commodity, and commodity prices may actually fall with an increase in interest rates. Investors may start moving from commodities to financial instruments, generating a decline in crop prices, even as the farmer's borrowing costs increase. The bottom line is a business owner should assess whether his or her business will allow for a related increase in prices to reflect higher interest rates.

    Savings and Investments: Part of the current concern over bond prices is related to the expected increase in interest rates. As interest rates go up, the normal consequence is a drop in bond prices. Beyond this connection, it becomes more tenuous determining how savings and investments will trend. While some may argue that an increase in returns on fixed yield products will generate a flight to these kinds of savings vehicles, others would argue that the very reason the Fed is backing off on bond buying is because the economy is improving. With an improving economy, investors become more willing to invest in equities. Now is a particularly important time to discuss your savings and investment strategies with your financial adviser.

    Overall Business Issues: An increase in interest rates can have a variety of business consequences that may affect your operations, including:

    Receivables - Your cost of carrying credit for your customers may increase. It may be time to reconsider your receivables pricing policy.

    Sales - How might a change in interest rates affect your sales? You may actually experience an increase in sales as customers try to access credit while it is still comparatively inexpensive. This may be particularly noticeable with capital purchases this year, as companies seek to access cheap credit AND utilise the current higher expending rules under IRC 179. On the flip side, increased borrowing costs may cause a longer term slowing of purchases. More costs, less buying. This is an opportunity for you to consider a pricing strategy aimed at timing an anticipated change in rates.

    Purchases - For the same reason your customers may change their buying habits, consider your own purchasing strategy. Is now the time to consider capital purchases or buying a large supply of goods needed for your manufacturing? Or, should you consider a cutback on purchases to reflect an anticipated dry spell in profits?

    Marketing - The fact I'm being asked about interest rates is an indicator that this is an issue both on business owners' and consumers' minds. If you believe interest rates are on the rise, consider how you can build this into your marketing plan. Perhaps you should target customers who are most likely to be affected by this change. A "fire sale" approach for some; an easy credit approach for others.
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