Your Customer Isn't Rational About Interest Rates (Neither Are You)

The Federal Reserve cut rates by 0.25% this week. The federal funds rate is now 3.75-4%, down from 4-4.25%. Markets wobbled. Financial media went into overdrive. Jerome Powell gave a characteristically vague press conference about "driving in the fog." And somewhere, right now, someone is panicking about what this means for their finances while simultaneously financing a $1,400 espresso machine at 29.99% APR.

Let me show you the math on what yesterday's rate cut actually means for you, then show you the math on what you're voluntarily doing to yourself. The gap between these two numbers should make you uncomfortable.

What the Fed Rate Cut Actually Does to Your Wallet

Let's say you have $10,000 in credit card debt at 24% APR. If your credit card company passes through the full 0.25% rate cut immediately (they won't, but let's pretend), your monthly interest charge drops from $200 to $197.92.

You save $2.08 per month. $24.96 per year.

That's it. That's the number everyone's panicking about.

Meanwhile, you're paying $200+ monthly in interest charges on debt you chose to carry. You're paying roughly $2,400 annually in interest on a balance that probably started as a series of purchases you could have avoided, delayed, or paid off immediately. The Fed just saved you the cost of a sandwich. You're costing yourself the equivalent of a decent vacation.

The Math Everyone Gets Wrong

Here's what actually happened yesterday: the Fed lowered the rate it charges banks to borrow money overnight. That rate eventually, maybe, partially, filters down to consumer credit rates over a period of months. The transmission mechanism is slow, incomplete, and often invisible.

Credit card companies will lower your APR by roughly 0.25%, assuming they pass it through at all. If you carry that theoretical $10,000 balance, you save $25 annually.

But you're already paying $2,400 in interest on that same balance. The rate you're panicking about (0.25%) is roughly 1% of the rate you voluntarily signed up for (24%). You're worried about the rounding error while ignoring the actual number.

Hyperbolic Discounting, Or: Why Future You Is A Sucker

Yesterday, while the Fed was cutting rates, someone financed a new iPhone at 24% APR. The phone costs $1,200. They'll make minimum payments. Let me show you what that actually costs:

Using standard minimum payment calculations (2% of balance or $25, whichever is greater), that $1,200 purchase will take approximately 7-8 years to pay off and cost roughly $1,100 in interest charges. Total cost: $2,300 for a phone that's worth $200 by the time it's paid off.

When asked to estimate, most people guess "maybe $1,400 total" and "probably 2-3 years to pay off."

They're wrong by a factor of two on both counts. This isn't because they're stupid. It's because of hyperbolic discounting, which is the technical term for "later feels like never."

The formula is V = A/(1+kD), where you discount future amounts based on delay. Rational discounting would use something close to market rates. You might value $100 in one year at $95 today.

But humans discount at absurd rates for short horizons—often 30-50%—then drop to nearly zero for distant futures. This is why $1,400 spread over 12 months feels like maybe $900 in your brain. "Later" feels nearly free. The exponential growth of compound interest is invisible to your linear-thinking brain.

The math says 24% interest. Your intuition says "basically free." Your intuition is wrong by roughly $1,100.

Mental Accounting Theatre

Richard Thaler won a Nobel Prize partly for explaining mental accounting: money in one bucket isn't fungible with money in another bucket, even though it's objectively the same dollars.

The iPhone financing isn't "debt" in most people's mental model. It's "phone expense." Necessary technology. Different bucket entirely from "credit card debt," even though both are literally identical: borrowing money at interest.

The Fed rate cut? That's "economy attacking me." That's external financial pressure. That's the "things being done TO me" bucket.

Same dollars. Same interest rates. Completely different emotional categories. Completely different decisions.

What This Means For Ecommerce

If you're running an ecommerce business, you're probably worrying about the wrong things right now. You're worried about whether the Fed's rate policy will affect consumer spending. You're watching macro indicators. You're reading analyses of transmission mechanisms and labor market data. Meanwhile, your customers are financing purchases at 24% APR without blinking. They're using BNPL services that charge 26% if they miss a single payment. They're making decisions based on monthly payment amounts rather than total cost.

They're not rational about interest rates. Neither are you. Neither is anyone.

The Fed cut rates yesterday and Powell said they're "driving in the fog." He's right, but not for the reasons he thinks. The fog isn't uncertainty about economic data. The fog is that nobody, not consumers, not merchants, not apparently the Fed, actually understands how interest rates affect behavior.

We understand the theory. We can calculate the compound interest formula. We know exponential growth exists.

But we don't feel it. We can't intuit it. And our entire consumer economy is built on exploiting that gap between what we know intellectually and what we believe emotionally.

Yesterday's rate cut will save the median consumer with credit card debt roughly $180 annually. That same consumer will pay roughly $1,400 in interest charges they could avoid by paying off their balance.

We're not irrational about interest rates because we're stupid. We're irrational because we're human, and interest rates are designed to exploit exactly how human we are.

The Fed keeps cutting rates, trying to stimulate spending. They needn't bother. We're already spending money we don't have, at rates we don't understand, on purchases we can't actually afford.

The system works exactly as designed. Just not for us.

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