Interest Rates: A Small Business Owner's Perspective

On September 22nd, Jerome Powell and the FED raised the FED funds rate to 5.5% — its highest level since 2001. This is the 11th time in 17 months in an effort to curb inflation from the money printer fiasco depicted above.

Now you might read 5.5% and think, "Ah that doesn't seem that high. I'd probably take a 5.5% mortgage right about now. But here's the thing, that's the FED Funds rate. The federal funds rate is the interest rate commercial banks charge each other for overnight lending. It's not the rate you and I get on general lending, mortgages, OR high-yield savings accounts. The FED Funds Rate serves as the basis for the prime rate. Generally, the prime rate is about 3 percent higher than the federal funds rate. This would make the prime rate as of September 28, 2023, 8.5% which means the average 30-year fixed mortgage rate is likely gonna be around 8% for most Americans. For context, the difference between an 8% 30-year note and a 3% 30-year note on a $500,000 home is about $1,250 a month. With a 500 basis point difference, you'll pay about $15k more per year on that home in interest alone.

Now, I won't go too much more into the 101 course on rates because I want to talk about something that I don't see many other small business owners talk about. How does this affect their business? Now S1 Technology? is a professional services business, we provide "done-for-you" IT and Cybersecurity subscriptions to businesses all across America. What that means from a capital outlay perspective is that we don't need to use debt typically to maintain operations or even to grow.

But even for businesses like S1 Technology, the higher FED Funds rate can have significant implications, many of which are more subtle than they appear on the surface. The ripples created by such a decision by the FED don't merely stop at the doors of homeowners.

If you've ever experienced the slow-motion knife fight of running a business, you'd know that customers are not just numbers on a sales report. They are real people with real financial concerns, and a significant change in their monthly outgoings can translate to changes in their buying behavior. If a client is now shouldering a heavier mortgage or if potential clients are now hesitating to take on loans for new projects, their IT and cybersecurity budget might, unfortunately, take a hit. It becomes a question of immediate necessity, and often, long-term protection measures like cybersecurity might be deemed secondary to immediate operational costs (until you get hacked).

Yet, this is just one dimension of it. Higher interest rates also impact the broader sentiment in the business community. Entrepreneurs might hesitate before taking the plunge into a new venture, fearing the cost of borrowing. Existing businesses might scale back expansion plans. And in a world where growth often dictates success, a slowdown can mean trouble. Hypothetically, for a business like S1 Technology, this could mean fewer new businesses coming up that would potentially need our services.

Moreover, in the startup ecosystem, the fundraising landscape can drastically change. As interest rates rise, the cost of capital for investors goes up. This might lead to venture capitalists becoming more cautious, tightening their purse strings, focusing only on startups with proven traction, and potentially offering less favorable terms to those they choose to fund.

All this paints a somewhat gloomy picture. But here's the flip side and, the part where we talk about turning challenges into opportunities. For businesses like ours that have been prudent, that have cash reserves, or that are less reliant on debt - times of economic tightening can be moments of strategic advantage. My leveraged or funded competitors might miss a step, leading to us increasing our market share. Or, the high barrier might discourage new entrants, leading to a less crowded market.

To navigate such complex waters, I try to keep a dual vision: one that's grounded in the realities of the current economic landscape and another that's focused on the horizon, on opportunities that lie ahead. If you can't tell, I'm quite bullish on our trajectory.

In conclusion, while the FED's decision might seem like a distant financial play, its implications run deep, influencing decision-making in boardrooms and home offices across the country. And in this intricate dance of economics, understanding the broader ripples is key. For therein lies not just the challenges of tomorrow but also the opportunities of the future.