How to Understand the Current Prime Rate

What the prime interest rate is and how it affects you

If you’re looking to apply for a loan — whether auto, home or other — you should start paying attention to the prime interest rate, which will affect the interest rate that you are charged on your loans by banks. It’s important to understand what the prime interest rate is, how it is determined and how it affects you as a borrower — after all, the prime interest rate can affect your interest rate on a variety of loans.

As of August 2013, the current prime rate is 3.25%. This rate has been steady for about a year, though experts expect it to go up when the current market conditions improve.

What Determines the Current Prime Rate?

The current prime rate is determined largely by the rate charged by the ten largest banks in the United States. The Wall Street Journal publishes the current prime rate and will adjust it after seven of the ten banks adjust their rates. The current prime rate is also influenced by the federal funds rate set by the Federal Reserve Board.

When this rate goes up, the prime rate goes up, as well. Because the Federal Reserve Board sets the federal funds rate to help stabilize the economy, current economic conditions will affect the prime rate.

When the economy is struggling, the rate will be lower. When the Federal Reserve Board is worried about inflation, the federal funds rate will be higher. The current prime rate is set so that banks can make a profit on the loans it gives out to customers.

How Does the Prime Interest Rate Today Affect Me?

The prime interest rate today will affect the rate you are offered on a variety of loans. Banks use it to set their auto loans, home equity loans and adjustable-rate mortgages. Your credit card rate could also be tied to the prime interest rate.

Generally, only customers with high credit scores will qualify for the prime interest rate. However, a lower or higher prime rate will still affect you if you have poor credit — the prime rate slides all other interest rates along the same scale.

Banks are not required to follow the prime rate and may set their own rate on loans. That said, the majority of the banks do use the prime rate as their main guide to setting their own rates.

How Does the Prime Interest Rate Affect Savings Accounts?

A low prime rate — such as we’re experiencing now — means that you will earn a lower percentage on savings products offered through your bank. The bank has to balance the number of loans it has out against the amount that it has in deposit accounts, such as savings accounts and certificates of deposit.

However, banks still want to make a profit on the loans they give out. So when interest rates are lower for lending, banks will lower the interest rates on savings accounts to maintain a profit on their loans. When the rates on loans go up, the savings account rates will go up, as well.