How the Fed’s rate hikes could affect your finances
NEW YORK (AP) — The Federal Reserve’s move Wednesday to raise the key interest rate by half a point brought it to a range of 4.25% to 4.5%, the highest level in 14 years.
The Fed’s latest hike — its seventh rate hike this year — will make it even more expensive for consumers and businesses to borrow for homes, cars and other purchases. If, on the other hand, you have money to spare, you will earn a little more from it.
Wednesday’s rate hike, part of the Fed’s efforts to curb high inflation, was less than the previous four straight hikes by three quarters. The reduction partly reflects the easing of inflation and cooling of the economy.
As interest rates riseMany economists say they fear a recession is still inevitable — and with it the loss of jobs that could lead to hardship for households already badly hurt by inflation.
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WHAT CAUSES KEY INCREASE?
The short answer: Inflation. Over the past year, US consumer inflation has clocked in at 7.1% — the fifth consecutive monthly decline, but still a painfully high level.
The Fed’s goal is to slow spending, thereby reducing demand for homes, cars, and other goods and services, ultimately cooling the economy and lowering prices.
Fed Chairman Jerome Powell has acknowledged that aggressive rate hikes would cause “some pain” for households, but that it is necessary to crush high inflation.
WHICH CONSUMERS ARE MOST AFFECTED?
Anyone who borrows money to make a large purchase, such as a home, car or major appliance, will take a hit, according to Scott Hoyt, an analyst at Moody’s Analytics.
“The new rate increases your monthly payments and costs quite dramatically,” he said. “It also affects consumers who have a lot of credit card debt – who will be hit right away.”
That said, Hoyt noted that household debt payments, as a share of income, remain relatively low, although they have risen recently. So even if interest rates keep rising, many households may not feel a much heavier debt burden immediately.
“I’m not sure interest rates are top of mind for most consumers right now,” Hoyt said. “They seem more concerned about groceries and what happens at the fuel pump. Prices can be somewhat difficult for consumers to wrap their minds around.”
HOW WILL THIS AFFECT CREDIT CARD RATES?
Even before the Fed’s latest move, credit card interest rates had reached their highest level since 1996, according to Bankrate.com, and are likely to continue rising.
And with rates still rising, there are signs that Americans are increasingly relying on credit cards to maintain their spending. Total credit card balances have topped $900 billion, according to the Fed, a record high, although that amount is not adjusted for inflation.
John Leer, chief economist at Morning Consult, a research firm, said his polls suggest more Americans are draining the savings they amassed during the pandemic and using credit instead. Finally, rising prices may make it more difficult for these households to pay off their debt.
Those who do not qualify for low interest credit cards due to poor credit scores are already paying significantly higher interest rates on their balances and will continue to do so.
As rates have risen, zero percent loans have been marketed as “Buy Now, Pay Later” has also become popular among consumers. But long-term loans of more than four payments that these companies offer are subject to the same increased interest rates as credit cards.
For people who have home equity lines of credit or other variable rate debt, interest rates will increase by roughly the same amount as the Fed hike, usually within one or two billing cycles. That’s because these interest rates are partly based on the banks’ prime rate, which follows the Fed’s.
HOW DOES SAVING INFLUENCE?
The rising returns on high-interest savings accounts and certificates of deposit (CDs) have put them at levels not seen since 2009, meaning households may want to increase their savings if possible. You can also now earn more from bonds and other fixed income investments.
While savings, CDs and money market accounts typically don’t track the Fed’s changes, online banks and others that offer high-yield savings accounts may be exceptions. These institutions usually compete aggressively for depositors. (The catch: Sometimes they require significantly high deposits.)
In general, banks tend to capitalize on a higher interest rate environment to boost profits by charging higher interest rates to borrowers, without necessarily offering juicer rates to savers.
WILL THIS AFFECT HOMEOWNERSHIP?
Last week, mortgage buyer Freddie Mac reported that the average rate on its benchmark 30-year mortgage fell to 6.33%. This means that the interest rate on a typical mortgage is still about twice as expensive as it was a year ago.
Mortgage rates do not always move in step with the Fed’s benchmark rate. Instead, they tend to track the yield on the 10-year Treasury.
Sales of existing homes have fallen for nine straight months as borrowing costs have become too high a barrier for many Americans who already pay much more for food, gas and other necessities.
WILL IT BE EASIER TO FIND A HOUSE IF I’M STILL LOOKING TO BUY?
If you are financially able to proceed with a home purchase, you likely have more options than ever in the past year.
WHAT IF I WANT TO BUY A CAR?
Since the Fed began raising interest rates in March, the average new vehicle loan has increased more than 2 percentage points, from 4.5% to 6.6% in November, according to the Edmunds.com auto website. Used car loans are up 2.1 percentage points to 10.2%. The loan period for new vehicles is on average just under 70 months, and they have passed 70 months for used cars.
Most important, however, is the monthly payment, which most people base their car purchases on. Edmunds says that since March it has increased by an average of $61 to $718 for new vehicles. The average used vehicle payment is up $22 per month to $565.
Ivan Drury, Edmunds’ director of insights, says financing the average new vehicle priced at $47,000 now costs $8,436 in interest. That’s enough to drive many people out of the car market.
“I think we’re actually starting to see that these interest rates, they’re doing what the Fed wants,” Drury said. “They take away your purchasing power so you can’t buy a vehicle anymore. There are going to be fewer people who can afford it.”
Any rate hike by the Fed is likely to be passed on to auto borrowers, although it will be somewhat offset by subsidized prices from manufacturers. Drury predicts that new vehicle prices will begin to ease next year as demand slows slightly.
HOW HAVE INTEREST HEDGES AFFECTED CRYPTO?
Cryptocurrencies like bitcoin have fallen in value since the Fed started raising interest rates. So have many previously highly valued technology stocks.
Higher interest rates mean that safe assets such as government bonds have become more attractive to investors because their returns have increased. That makes risky assets like tech stocks and cryptocurrencies less attractive.
Yet bitcoin still suffers from problems separate from economic policy. Three major crypto firms have failed, most recently the high-profile FTX exchange, shaking the confidence of crypto investors.
WHAT ABOUT MY JOB?
Some economists argue that layoffs may be necessary to slow rising prices. One argument is that a tight labor market fuels wage growth and higher inflation. But the nation’s employers continued to hire rapidly in November.
“Job openings continue to outpace job vacancies, indicating that employers are still struggling to fill vacancies,” said Odeta Kushi, an economist at First American.
WILL THIS AFFECT STUDENT LOANS?
Borrowers taking out new private student loans should prepare to pay more as rates rise. The current range for federal loans is between 5% and 7.5%.
That said, payments on federal student loans are suspended at zero interest until the summer of 2023 as part of an emergency measure put in place early in the pandemic. President Joe Biden has also announced some loan forgiveness, of up to $10,000 for most borrowers, and up to $20,000 for Pell Grant recipients — a policy now being challenged in the courts.
IS THERE A CHANCE THE RACE INCREASE WILL BE REVERSED?
It looks increasingly unlikely that prices will fall anytime soon. On Wednesday, the Fed signaled that it will raise interest rates as high as about 5.1% early next year — and keep them there through the rest of 2023.
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AP Business Writers Christopher Rugaber in Washington, Tom Krisher in Detroit and Damian Troise and Ken Sweet in New York contributed to this report.
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The Associated Press receives support from the Charles Schwab Foundation for educational and explanatory reporting to improve financial literacy. The independent foundation is separate from Charles Schwab and Co. Inc. AP is solely responsible for its journalism.
