How do Fed interest rate hikes affect inflation — and your wallet? – NBC New York

The Federal Reserve is the central bank of the United States and is charged by Congress with maintaining a stable economy and financial system.

One of the ways the Fed does this is to raise and lower the cost of borrowing money. The interest rate cuts are intended to encourage borrowing and spending by individuals and businesses. This spending, in turn, tends to accelerate growth and energize economies. Lower mortgage rates, for example, typically boost home sales. And cheaper borrowing can encourage businesses to take out loans, grow and hire.

Conversely, interest rate hikes help contain inflation, as consumers spend less when the cost of borrowing rises.

The Fed on Wednesday raised its benchmark interest rate by half a percentage point, its most aggressive move in more than two decades, and signaled that further hikes are still to come. Rate hikes will eventually mean higher loan rates for many consumers and businesses.

Here are a few ways the Fed hike could impact your portfolio:

How Fed Hikes Affect Credit Card Interest Rates and Borrowing Costs

Most credit cards have variable interest rates and these are tied to the financial institution’s prime rate, which is the rate banks charge their most creditworthy customers. The prime rate is based on the Fed’s benchmark rate, which is the overnight rate that banks charge each other to lend money to meet reserve requirement levels. When benchmark rates rise, it becomes more expensive for banks to borrow money, and they pass those costs on to consumers in the form of higher interest rates on lines of credit.

A rate hike would raise interest rates for cardholders and borrowers with variable APRs by the same amount as the Fed hike, typically within one or two billing cycles. While a half-point increase won’t cause financial ruin for borrowers with low balances, those with larger credit debts will feel the impact at a time when the cost of living is already rising. And with the Fed expected to raise its benchmark rate to between 1.75% and 2% by the end of the year, this would significantly increase interest payments on balances.

“Now is the time for those with credit card debt to focus on reducing it,” said Matt Schulz, chief credit analyst at LendingTree. “This debt will only get more expensive.”

Bankrate.com advises consumers to consider balance transfer card options to pay off their credit card debt. Finding a card that offers zero percent interest on balance transfers and paying off your fees within the zero percent APR introductory window is one way to eliminate your interest-free debt.

Credit card interest rates are currently around 16.41%, but could hit 18.5% by the end of the year, which would be an all-time high, according to senior analyst Ted Rossman. of the industry at CreditCards.com.

If you have bad credit, it can be difficult to get a loan. In Part 2 of our Surviving Capitalism series, we explain how to find your credit score and what you can do to raise it.

Will the Fed hike affect my current mortgage rate or a new home loan?

The impact of the Fed rate on home loans depends on whether the borrower has a fixed or adjustable rate mortgage (ARM), and even then only slightly. This is because the Fed rate and mortgage rates are not directly related.

A home loan is a long-term financial product, the most common being a 30-year fixed-rate mortgage, while the Fed rate is for short-term overnight borrowing. According to CNBC.com, long-term mortgage rates are pegged to government bond yields, particularly the 10-year Treasury bill. When that rate goes up, the popular 30-year fixed rate mortgage tends to do the same.

Due to faster inflation and strong economic growth in the United States, these Treasuries are on the rise. In turn, average rates on a new 30-year mortgage have soared in recent months to 5.5% from 3.11% at the end of December.

But mortgage rates don’t always go up at the same time as Fed rate hikes. Sometimes they even move in the opposite direction. This is because they are influenced by a variety of factors. These include investor expectations for future inflation and global demand for US Treasuries. Global unrest, such as Russia’s invasion of Ukraine, often prompts investors to buy US Treasuries, which are considered the safest asset in the world. Higher demand for the 10-year Treasury would reduce its yield, which would then lower mortgage rates.

Fixed mortgage rates are also influenced by supply and demand. When business is booming for mortgage lenders, they raise rates to reduce demand. When fewer people take out mortgages, lenders cut rates to attract more customers.

Mortgage rates are ultimately set by investors. Most US mortgages are presented in the form of securities and resold to investors. Lenders offer consumers an interest rate that third-party investors are willing to pay.

Interest rates take the elevator up and down the stairs. CNBC’s Bertha Coombs explains how interest changes affect saving for a down payment and when you should get a mortgage for a home.

What about car and student loans?

Auto loans are generally unaffected by the Fed’s rate hike because most are usually fixed rate loans. However, this latest rate hike – the biggest in more than 20 years – could have a small impact, according to Jessica Caldwell, executive director of information at Edmunds.

Rates for buyers with lower credit scores are the most likely to rise following Fed hikes, said Alex Yurchenko, chief data officer for Black Book, which monitors vehicle prices in the United States. Since the prices of used vehicles increase on average, the monthly payments will also increase.

But other factors also affect these rates, including competition between car manufacturers which can sometimes lower financing costs.

With respect to student loans, all federal student loans held by the government have been on payment pause, with interest suspended, since March 2020 due to the coronavirus pandemic. This relief was originally scheduled to end on May 1, 2022, but in April President Joe Biden extended this relief until September 1. Any increase in interest rates by the Fed will have no impact on these loans. Additionally, Congress sets federal student loan interest rates through legislation, which it updates periodically, not through lenders.

But, borrowers with a private loan can have a fixed or variable rate linked to Libor, London InterBank Offered Rate, another key interest rate used by banks for short-term loans with other banks, according to CNBC. This means that as the Fed raises rates, borrowers will likely pay more interest, although the amount will vary depending on the benchmark and the lender.

Will the interest rate on my savings go up?

Savers will not directly benefit from the Fed’s rate hike, as deposits and money market accounts generally do not react to interest rate hikes. Instead, banks tend to take advantage of a higher rate environment to try and boost their profits. Additionally, savings account rates are at historic lows and any minor increases won’t hold much purchasing power due to rising inflation.

The FDIC reports that the average rate paid on savings accounts in the United States is just 0.06% for a physical institution. These big banks have been awash with savings thanks to government financial aid and spending cuts from many wealthier Americans during the pandemic, according to The Associated Press, and won’t need to raise interest rates. savings to attract more deposits or CD buyers.

Some online lenders, however, have competed to offer higher-yielding savings accounts with rates hovering around 0.6%. The rates of the best performing certificates of deposit are above 1%, which is even better than a high yield savings account.

If you have $10,000 in a regular savings account, for example, earning 0.06%, you will only earn $6 in interest per year. But in an average online savings account paying 0.6%, you could earn $60, while a five-year CD could earn twice as much, said Ken Tumin, founder and editor of DepositAccounts.com .

Savers in one place are beginning to see some returns come from treasury bills. On Tuesday, the yield on the 10-year note was 2.96%, after briefly above 3% for the first time since 2018, the AP reports.

Consumers worried about an economic downturn should still take steps now to shore up their finances, regardless of rates. This includes paying off debt, refinancing at lower rates, and increasing emergency savings.

If you invest in mutual funds or exchange-traded funds that hold long-term bonds, they will become a riskier investment. Typically, existing long-term bonds lose value as new bonds are issued at higher yields.

The Associated Press contributed to this report.

Stephen V. Lee