Interest Rate Cycles: What They Are and Why They Matter

Interest rates are more than just numbers that affect your mortgage or savings account — they’re a powerful lever used to manage the entire economy. If you’ve noticed headlines about central banks “hiking” or “cutting” interest rates, you’re witnessing part of a broader economic phenomenon known as the interest rate cycle. Read on to learn more!

What is an Interest Rate Cycle?

An interest rate cycle refers to the natural fluctuation of interest rates over time, typically orchestrated by a country’s central bank, such as the Federal Reserve in the United States, in response to economic conditions. These cycles usually alternate between periods of rising and falling rates. Here are some terms to keep in mind as your credit union navigates interest rate cycles:

•  Rate Hike Phase: Central banks increase interest rates to cool down an overheated economy or combat high inflation.
• Rate Cut Phase: Central banks lower interest rates to stimulate economic growth, especially during slowdowns or recessions.

One cycle can span several years and is closely tied to broader economic indicators such as inflation, employment, consumer demand and GDP growth.

Current Interest Rate Cycle:

The Federal Reserve is currently in an interest rate cycle that began in 2022 with a series of aggressive rate hikes to combat inflation, followed by a period of rate cuts as inflation began to moderate. The current policy rate target range is 4.25 percent to 4.50 percent.

The Fed is expected to continue to monitor economic data and inflation trends to determine the future path of interest rates. Some analysts anticipate further rate cuts in 2025, while others believe the Fed may hold rates steady for a longer period.

Why Do Interest Rates Change?

Central banks adjust interest rates as part of monetary policy. Their goal is to maintain a balance between fostering economic growth and keeping inflation in check.

• When inflation is too high, raising interest rates make borrowing more expensive, which can reduce spending and help bring prices down.
• When economic growth is too slow, lowering rates makes borrowing cheaper, encouraging investment and consumption.

It’s a bit like adjusting the thermostat to maintain a comfortable temperature- only in this case, the “temperature” is the economy.

Phases of Interest Rate Cycles

1.   Low-Rate Environment

• This environment occurs when triggered by an economic slowdown or crisis (like the 2008 financial crash or the COVID-19 pandemic).
• Central banks cut rates to stimulate borrowing and spending.
• Prices often rise due to cheap money.

2.   Recovery and Growth

• As the economy picks up, inflation begins to rise.
• Central banks prepare to reverse course.

3.   Rate Hike Cycle

• Interest rates are increased incrementally.
• Aimed at cooling inflation without stalling growth.
• Borrowing becomes costlier; spending and investment may slow.

4.   Economic Slowdown

• If rates rise too high, or if external shocks occur, the economy may begin to weaken.
• As inflation cools, unemployment may rise.

5.   Rate Cut Cycles Begin Again

• Central banks respond with rate cuts to support growth, restarting the cycle.

The Effect of Interest Rate Cycles on the Economy

Interest rate cycles impact almost every corner of the economy - and your wallet:

• Mortgages and Loans: Higher rates mean higher monthly payments.
• Savings and Deposits: Higher rates can increase your returns.
• Investments: Stocks and bond markets often react strongly to rate changes.
• Job Market: Expensive borrowing can reduce business investment and hiring.

Preparing Your Financial Institution for the Future

Interest rate cycles are a natural part of economic life. While we can’t predict their exact timing, we can understand their logic and prepare accordingly. Whether you’re a saver, borrower, or investor, knowing where we are in the cycles helps you navigate the financial landscape with more confidence and provide helpful support to your members.

As always, we are here to help. If you ever have questions, please reach out! Our investments team is happy to provide insights and address any concerns you might have.

John Katon is an investment analyst for Vizo Financial, analyzing and interpreting financial data to assist in the Corporate's investment decisions.