How Interest Rates Work: The Simple Explanation
Interest is the price of borrowing money. Here is how that price is determined and why it matters.
When you borrow money, you pay interest — a percentage of the balance charged by the lender. When you save money, you earn interest — a percentage paid by the bank for using your deposits. The Federal Reserve sets the baseline rate that influences all other rates in the economy.
How Small Differences Add Up
On a $300,000 30-year mortgage: at 6%, total interest paid is $347,515. At 7%, total interest is $418,527. That 1% difference costs $71,012 over the life of the loan — roughly $197 per month. This is why shopping for the best rate and improving your credit score before applying is worth thousands of dollars.