When the Federal Reserve announced last week that they plan to keep interest rates near historic lows through most of 2013, many commercial loan borrowers sighed a sound of relief. Although many Borrowers have already benefitted from historically low interest rates over the past couple of years, most commercial loans only get locked into place for three to five years. Because of the short-term nature of these loans, there is substantial rate risk each commercial loan borrower takes on. With all of the focus commercial lenders are putting on borrowers cash-flow these days before making a lending decision, a commercial loan that might make a lot of sense for a commercial lender at today’s interest rates might not make any sense at a higher rate years from now. Because of this the longer interest rates can stay low, the less pressure commercial loan borrowers feel about future loan maturities, and the more they are willing to invest and borrower today. Lower rates also make it easier for commercial borrowers to take on additional financing opportunities and continue to build profits and wealth to reinvest.
Furthermore, by keeping rates low, it gives the Bank’s confidence that their cost of funds will not go up. Because many Banks borrow from the Federal Government, any increase in interest rates would increase Bank costs. Concern over high Bank costs usually forces Banks to raise interest rates, specifically to their commercial loan borrowers. Typically Banks don’t have a large window into the future to see where rates might go, making it hard to determine what interest rates to charge today. By the Federal Reserve giving them a longer-term vision, it gives Banks more flexibility today in their loan pricing, and will likely keep rates competitive through 2011 and most of 2012. However, that same window may lead to Banks slowly increasing rates in late 2012 or 2013 as they prepare for anticipated rate increases from the Federal Reserve. In the meantime, commercial loan borrowers are going to continue to benefit from good low interest rates likely for another year and possibly much longer depending on the health of the economy, which should help to spurn the development of wealth and additional investments in both commercial real estate and business development.