Since the market meltdown began, investment bank stock analysts and financial TV commentators discuss all sorts of issues to explain the present situation with stocks, bonds, and the economy. But none of their reporting mentions how the real economy, rather than the stock market and public companies, is affected by rising interest rates. Interest rates affect real incomes of both consumers and businesses. Investors need to understand the consequences of:
- Interest rates effect on housing
- Interest rates effect on business balance sheets and re-setting of existing and new debt
- Interest rate effects on consumer debt, and, thus, consumer spending
- Interest rates are rising due to the U.S. government selling bonds to finance spending and/or due to quantitative tightening (in which case, investors won’t return to bonds for safety, and, thus, pushing rates downward, because bonds could continue to move lower, regardless of investor buying).
All of these things affect business sales and profits. In particular, these things affect the growth or decline of housing prices- which, as we saw in 2007, can affect everything else.
Even if consumers get raises, growing debt costs can eat into any such gains. With lack of any noteworthy wage inflation, this is problematic. Business earnings projections are affected by growing debt service costs. Housing is directly affected by higher interest rates, not only in the cost of buying a home, but also because of higher consumer debt, overall.
Houses and products have to be bought by people. Other than through tax cuts, this is how revenues and earnings grow. Higher debt costs have to be factored into the sales projections of everything. Yet, I have not seen them factored into anything- not into home builder stocks or consumer stocks. Let’s hope any wage increases offset the additional consumer debt expenses. Let’s also hope that the tax cuts make the higher cost of capital for businesses irrelevant.