Interest — The Federal Reserve hiked the target federal funds rate by a quarter point this week in an effort to battle inflation. The Federal Open Market Committee of the Federal Reserve raised interest rates to a target range of 5.25% to 5.5%. As a result, the target rate midpoint reached its highest position since 2001.
Despite recent hints that inflationary pressures have subsided, the central bank maintained interest rates unchanged at its most recent meeting, signaling that measures to restrain price hikes are far from complete.
Inflation is currently over the Fed’s 2% objective. However, according to Brett House, a Columbia Business School economics professor, “It’s entirely possible that this could be the last hike in the cycle.”
Federal fund rates
The Federal Reserve Bank of the United States is in charge of computing the federal funds rate, which is the interest rate in which banks lend and borrow money overnight to one another. Although the federal funds rate is not the rate at which customers are charged, the Fed’s actions have a substantial impact on the borrowing and saving rates that consumers see on a daily basis.
The current interest rate increase is the 11th by the Federal Reserve, with the first being in March 2022. It is also linked to an increase in the prime rate, which rapidly boosts financing costs for many types of consumer borrowing. As a result, it makes it more difficult for households to escape a subsequent recession.
“The pain that the rate hike has caused for a lot of people isn’t gratuitous,” said House.
“Ultimately, this is a trade off in choices between pain now and greater pain later if inflation isn’t brought under control.”
How the higher interest rates affect you
Mortgage rates remain high
Because 15- and 30-year mortgage rates are now fixed and tied to Treasury yields and the economy, the interest rate hike will not be felt immediately by homeowners. In contrast, inflation and the Fed’s monetary policies discourage individuals from looking for new residences. The average 30-year fixed-rate mortgage rate is currently less than 7%, according to Freddie Mac.
When the higher interest rates are covered into mortgage rates, homeowners will pay an extra $11,160 over the life of the loan. Other types of mortgages, on the other hand, are more intimately linked to the Fed’s operations.
Prime rates are connected to adjustable-rate mortgages and home equity lines of credit. A HELOC is immediately modified, whereas most ARMs are updated once a year. According to Bankrate, the average HELOC rate is already 5.8%, the highest in 22 years.
Student loans shoot up
Because federal student loan rates are fixed, the majority of borrowers will be unaffected by rate adjustments. Undergraduate students who obtain new direct federal student loans starting in July, on the other hand, will be fined an interest rate of 5.50% for the 2022-2023 academic year.
All users with an active federal student loan can benefit from the 0% interest rate for the time being, but student loan payments will begin in October.
Private student loans sometimes have variable interest rates connected to Libor, which implies that if the Fed raises interest rates, borrowers will pay more in interest.
Car loans become harder to attain
Despite the idea that auto loans are fixed, payments are increasing as car costs rise in concert with new loan interest rates.
Edmunds reports that the average rate on a five-year new auto loan is currently 7.2%, the most in 15 years. In 2022, paying an annual percentage rate of 7.2% rather than 5.2% could result in consumers paying $2,278 more in interest over the life of a $40,000, 72-month auto loan.
“The double whammy of relentlessly high vehicle pricing and daunting borrowing cost is presenting significant challenges for shoppers in today’s car market,” said Edmunds’ director of insights Ivan Drury.
Credit cards reach record highs
Credit cards, due to their variable interest rates, are inextricably linked to the Federal Reserve’s benchmark. When the federal funds rate rises, so do the prime rate and credit card rates within one or two billing cycles.
The average credit card interest rate has increased by more than 20%, reaching an all-time high. Meanwhile, credit card balances continue to rise, and more than half of all credit card users are in monthly debt.
“It’s still a tremendous opportunity to grab a zero percent balance transfer card,” said Bankrate chief financial analyst Greg McBride.
“Those offers are still out there, and you have credit card debt, that is your first step to give yourself a tailwind on a path to debt repayment.”
A silver lining
While there may appear to be solely disadvantages, there are certain advantages, such as greater savings account interest rates.
Although the Federal Reserve has no direct impact over deposit rates, changes in the Fed’s target federal funds rate are commonly associated with them. During Covid, savings account rates at numerous major retail banks hit rock bottom. However, they are now averaging 0.42%.
Top-yielding online savings account rates are currently at 5%, the highest since the 2008 financial crisis, due to fewer administrative expenses.
McBride, on the other hand, warned that if this is the last rate hike for a time, rates may finally fall.