How a Recession Can Affect Personal Loan Rates

The national credit market directly affects personal loan rates. During a recession, the national credit market suffers tremendously. As business and people alike default on their loans, banks and lenders do not have the cash needed to continue to fund new loans. The result is a very tight market for credit and a very low appetite for risk among lenders. When you are seeking personal loan approval in a recession, there are factors outside of your control affecting your interest rates.

National Interest Rates

The Federal Reserve tends to lower the national interest rate in a recession. This is the rate banks charge each other to borrow money. In times of extreme recession, the interest rate can approach zero. While it may be natural to assume this rate cut will be passed down to personal loan borrowers, this is not always the case. Banks need funds immediately in a recession, and they get these funds through charging interest on loans. It is not uncommon for rates to go up despite the national interest rate decreasing.

High Inflation

Inflation is usually high in a recession. The price index on basic commodities, such as food and gas, tends to go up. The result of high inflation is high interest rates. Banks need to ensure they build in the rate of inflation to the repayment structure on a loan. Otherwise, the bank may lose money even if the interest rate on the loan is high. Interest rates will be higher on a personal loan that is long-term. Short-term loans do not need to account for inflation as much.

Less Loans Available

Banks have less money to distribute in a recession. In some cases, lenders may even fail, and there will be less personal loan lenders on the market. The result is more competition for the loans that are available. Securing personal loan approval means standing out against other applications. Borrowers will have to have higher credit scores, more job stability, and meet other financial criteria to stand out from the pack. Recessions categorically harm those with lower credit scores and less income to a greater extent. If you have a less than perfect financial history, you will see very high rates if you are even able to secure a loan. 

Low Appetite for Risk

A high amount of loan defaults and foreclosures on the market hurts the pocketbooks of all lenders and bankers. These organizations start to pull back from risky lending. For example, jumbo loans, those which extend beyond the national acceptable limits, are often not available. Lenders want safe options. If you are able to secure your loan with collateral, you may be able to obtain fair rates. Unsecured or high risk personal loans will be met with very high interest rates. It is possible that a high risk borrower will have to go to a special high-risk lender to secure a personal loan.

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