What the Federal Funds Rate Means to You
The federal funds rate, which is set by the central bank, is the interest rate at which banks borrow and lend to each other overnight. Although this is not the rate consumers are paying, Fed decisions still affect the borrowing and savings rates that consumers see every day.
“We’re definitely going to see the cost of borrowing go up pretty quickly,” Spatt said.
In an environment of rising rates and future economic uncertainty, consumers should take specific steps to stabilize their finances, including paying down debt, especially expensive credit card and other variable rate debt, and increasing their savings, said Greg McBride, chief financial analyst at Bankrate. .com.
Pay off high-interest debt
Since most credit cards have a variable interest rate, there is a direct link to the Fed’s benchmark, so short-term borrowing rates are already rising.
Credit card rates are currently 16.61%, on average, significantly higher than almost all other consumer loans, and could be closer to 19% by the end of the year – which would be a new all-time high, according to senior industry analyst Ted Rossman. on CreditCards.com.
If the APR on your credit card reaches 18.61% by the end of 2022, it will cost you an additional $832 in interest charges over the life of the loan, assuming you’ve made minimum payments on the loan. average balance of $5,525, Rossman calculated.
If you have a balance, try consolidating and paying off high-interest credit cards with a low-interest home equity loan or personal loan, or switch to a balance transfer credit card without interest, he advised.
Consumers with variable-rate mortgages or home equity lines of credit may also want to switch to a fixed rate, Spatt said.
Since longer-term 15- and 30-year mortgage rates are fixed and tied to Treasury yields and the broader economy, these homeowners won’t be immediately affected by a rate hike.
However, the average interest rate on a 30-year fixed-rate mortgage is also up, hitting 6.28% this week, up more than 3 full percentage points from 3.11% at the end of the week. december.
“Given they’ve already risen so dramatically, it’s hard to say how much mortgage rates will rise by the end of the year,” 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 per month at 3.11%. If you paid 6.28% instead, it would cost $570 more per month or $6,840 more per year and $205,319 more over the life of the loan, according to Grow’s mortgage calculator.
Even though auto loans are fixed, payments go up because the price of all cars goes up, so if you’re thinking of financing a new car, you’ll be shelling out more in the months ahead.
Federal student loan rates are also fixed, so most borrowers won’t be hit immediately by a rate hike. However, if you have a private loan, those loans can be fixed or have a variable rate tied to Libor, Prime, or Treasury bills – meaning when the Fed raises rates, borrowers are likely to pay more interest. , although how much more will vary by reference.
This makes it a particularly good time to identify outstanding loans and see if refinancing makes sense.
Look for higher savings rates
Although the Fed has no direct influence on deposit rates, they tend to be correlated with changes in the target federal funds rate. As a result, savings account rates at some of the largest retail banks are barely above the floor, currently just 0.07%, on average.
“The rates paid by the big banks are largely unchanged, so where you have your savings is really important,” McBride said.
Thanks in part to reduced overhead, the average online savings account rate is closer to 1%, well above the average rate at a traditional bank.
“If you have money in a savings account earning 0.05%, moving it to a savings account earning 1% is an immediate twenty-fold increase, with more benefits to come as interest rates are rising,” according to McBride.
The best-performing certificates of deposit, which yield around 1.5%, are even better than a high-yield savings account.
However, since the rate of inflation is now higher than all of these rates, any money saved loses purchasing power over time.
To that end, “one of the main opportunities is the ability to buy US government I bonds,” Spatt said.
These federally-backed inflation-protected assets are nearly risk-free and pay an annual rate of 9.62% through October, the highest yield on record.
While there are purchase limits and you can’t mine the money for at least a year, you’ll get a much better return than a one-year savings account or CD.
What’s next for interest rates
Consumers should prepare for even higher interest rates in the coming months.
Although the Fed has already hiked rates several times this year, more hikes are on the horizon as the central bank grapples with inflation.
While expectations for these increases had been quarter- and half-point increases at each meeting, the central bank could grant further increases of 50 or 75 basis points if inflation does not start to pick up. to calm down.
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