The Federal Reserve raised its target federal funds rate by 0.75 percentage points, the largest increase in nearly three decadesAt the conclusion of Wednesday’s two day meeting, “In an effort to quash” runaway inflation.
Jerome Powell, Federal Reserve Chairman and CEO of the Fed said that “We understand the hardship high inflation causes.” press briefing Wednesday.“We are determined to bring inflation down, and we are moving quickly to achieve that goal.”
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This latest move is just one of several rate-hiking cycles that aims to crush inflationWithout tipping economy into a recessionAs some fear could happen.Last November 1994 saw the Fed raise rates by 75bps
Chester Spatt from Carnegie Mellon University’s Tepper School of Business said, “The reason for all of these is that prices have gone up.” The Fed is trying reduce that demand by raising interest rates.
Consumers may find relief from rising prices by adopting this aggressive approach. However, it comes with a price.
The federal funds rate: What does it mean to you?
Federal funds rate is the overnight interest rate banks can borrow from and lend each other. It is determined by the central banking. Even though it is not the interest rate that consumers pay, Fed moves have an impact on the savings and borrowing rates people see each day.
Spatt stated that “we’re certain going to see borrowing costs escalate fairly quickly.”
With the backdrop of rising rates and future economic uncertainty, consumers should be taking specific steps to stabilize their finances — including paying down debt, especially costly credit card and other variable rate debt, and increasing savings, said Greg McBride, chief financial analyst at Bankrate.com.
Reduce high-rate debt
Since most credit cards have a variable interest rate, there’s a direct connection to the Fed’s benchmark, so short-term borrowing rates are already heading higher.
Credit card rates are currently 16.61%, on average, significantly higher than nearly every other consumer loan, and may be closer to 19% by the end of the year — which would be a new recordAccording to Ted Rossman (a CreditCards.com senior industry analyst), the figure is.
Rossman calculates that an increase in the APR of your credit card to 18.61% will result in additional interest fees of $832 over the term of the loan.
Consolidate high-interest credit cards that have a higher interest rate and pay off the balance if you are carrying an unpaid balance home equity loan or personal loan or switch to an interest-free balance transfer credit card, he advised.
Consumers with an adjustable-rate mortgage or home equity lines of credit may also want to switch to a fixed rate, Spatt said.
Because longer-term 15-year and 30-year mortgage rates are fixed and tied to Treasury yields and the broader economy, those homeowners won’t be immediately impacted by a rate hike.
However, the average interest rate for a 30-year fixed-rate mortgage is also on the rise, reaching 6.28% this week — up more than 3 full percentage points from 3.11% at the end of December.
“Given that they’ve already gone up so dramatically, it’s difficult to say just how much higher mortgage rates will go by year’s end,” said Jacob Channel, senior economic analyst at LendingTree.
On a $300,000 loan, a 30-year, fixed-rate mortgage would cost you about $1,283 a month at a 3.11% rate. If you paid 6.28% instead, that would cost an extra $570 a monthOder $6,840 more a year and another $205,319 over the lifetime of the loan, according to Grow’s mortgage calculator.
Even though auto loans are fixed, payments are getting bigger because the price for all cars is rising, so if you are planning to finance a new car, you’ll shell out more in the months ahead.
Federal student loan rates are also fixed, so most borrowers won’t be impacted immediately by a rate hike. However, if you have a private loan, those loans may be fixedOder have a variable rate tied to the Libor, prime or T-bill rates — which means that as the Fed raises rates, borrowers will likely pay more in interest, although how much more will vary by the benchmark.
That makes this a particularly good time to identify the loans you have outstanding and see if refinancing makes sense.
Hunt for higher savings rates
While the Fed has no direct influence on deposit rates, they tend to be correlated to changes in the target federal funds rate. As a result, the savings account rates at some of the largest retail banks are barely above rock bottom, currently a mere 0.07%, on average.
“The rates paid by bigger banks are largely unchanged, so where you have your savings is really important,” McBride said.
Thanks, in part, to lower overhead expenses, the average online savings account rate is closer to 1%, much higher than the average rate from a traditional, brick-and-mortar bank.
“If you have money sitting in a savings account earning 0.05%, moving that to a savings account paying 1% is an immediate twentyfold increase with further benefits still to come as interest rates rise,” according to McBride.
Top-yielding certificates of deposit, which pay about 1.5%, are even better than a high-yield savings account.
However, because the inflation rate is now higher than all of these rates, any money in savings loses purchasing power over time.
To that end, “one main opportunity out there is the possibility of buying some I bonds from the U.S. government,” Spatt said.
These inflation-protected assets, backed by the federal government, are nearly risk-free and pay a 9.62% annual rate through October, the highest yield on record.
Although there are purchase limits and you can’t tap the money for at least one year, you’ll score a much better return than a savings account or a one-year CD.
What’s coming next for interest rates
Consumers should prepare for even higher interest rates in the coming months.
Even though the Fed has already raised rates multiple times this year, more hikes are on the horizon as the central bank grapples with inflation.
Although quarter- and half-point increases were expected at each meeting with these expectations, the central banks could offer further. 50 or 75 basis point increases if inflationCooling off doesn’t happen.
