- The Federal Reserve cut its benchmark interest rate by a quarter point yesterday
- However, the rates lenders charge on car loans are rising
For the second month in a row, the U.S. Federal Reserve cut its benchmark interest rate by a quarter of a point this week. But the move will have little impact on car shoppers.
The rates lenders charge for car loans rose last month despite recent cuts.
Explaining the Fed
- A quasi-government agency, the Federal Reserve, sets the interest rate for overnight loans between banks
- That rate then affects the rates lenders charge for all types of credit
The Federal Open Market Committee of the U.S. Federal Reserve, commonly called “the Fed,” is a committee of financial experts appointed by the president and approved by Congress. Once Fed members are in their seats for 14-year terms, they have complete independence and don’t answer to any branch of government.
Fed members are fond of saying they have a “dual mandate” — a charge to keep unemployment low and prices stable. They traditionally have independence from political branches of the government on the theory that they should take a long-term view of both, while presidents might prefer short-term decisions.
The Fed sets the interest rate for overnight loans between banks. Banks then use that rate to calculate the rates they’ll offer Americans on mortgages, car loans, and other forms of credit.
Related: Is Now the Time to Buy, Sell, or Trade-In a Car?
The Fed has been operating under extraordinary conditions in recent weeks. President Donald Trump has attempted the unprecedented move of firing a board member midterm. The Supreme Court recently said that member Lisa Cook can remain in her seat while it waits to hear arguments on whether that’s allowed next year.
Meanwhile, due to the current government shutdown, the government is not producing much of the data the board relies on, such as unemployment figures.
Under the circumstances, the board skipped a step it usually takes — projecting whether future cuts are coming.
Why Cuts are Having a Limited Impact
- New car loan lenders are dialing back discount rates
- The used car loan market looks more conservative because two big risk-taking lenders went out of business recently
“The Fed Funds Rate is now 3.75-4.00%, which is still considered to be restrictive, meaning there is room for additional cuts if risks to the labor market persist,” explains Cox Automotive Chief Economist Jonathan Smoke.
“Auto loan rates, however, have moved in the opposite direction” from the federal funds rate, he says.
“The average new auto loan rate increased 32 basis points (BPs) in September to 9.41%, which was down 17 BPs year over year. In October, interest rates have increased another 19 BPs, leaving them down 24 BPs year over year.”
Why are auto loan rates rising while the federal funds rate is falling? The answer is different for new and used car loans.
In the new car market, he says, banks aren’t raising rates above what we’d typically expect to see in this economy. Instead, they’re dialing back on advertised discount rates amid economic uncertainty. “Fewer special, low-rate offers means an increase for prime-and-above borrowers who disproportionately benefit from the special offers,” he explains.
In the used car market, a pair of recent bankruptcies has taken two lenders who specialize in no-credit-check buy-here, pay-here loans out of the market entirely. The market appears more risk-averse largely because two players known for taking significant risks are no longer involved.
What to Expect
- Rates may remain high through November
- But Smoke says they will likely come down next year, perhaps as much as a quarter point
“Average auto loan rates are likely to remain high through November,” Smoke says.
But, “December will bring more year-end rate offers in the new market, which should help pull the average rate back down. The used market is not likely to see rates decline until loan performance improves, and this is the time of year when loan performance always degrades.”
Normal seasonal patterns, he says, mean “loan performance should begin improving by March, and 2026 could see improvement start sooner as consumers benefit from reduced tax withholdings leading to higher take-home pay in January.”
Car shoppers who can afford to wait, he projects, “should see average auto loan rates lower by a full percentage point or more by the summer of 2026.”
