“The easing of inflation pressures is evident, but this doesn’t mean the Federal Reserve’s job is done,” said Greg McBride, chief financial analyst at Bankrate.com. “There is still a long way to go to get to 2% inflation.”
What the federal funds rate means to you
The federal funds rate, which is set by the U.S. central bank, is the interest rate at which banks borrow and lend to one another overnight. Although that’s not the rate consumers pay, the Fed’s moves do affect the borrowing and saving rates consumers see every day.
This rate hike will correspond with a rise in the prime rate and immediately send financing costs higher for many forms of consumer borrowing — putting more pressure on households already under financial strain.
“Inflation has shredded household budgets and, in many cases, households have had to lean against credit cards to bridge the gap,” McBride said.
On the flip side, “with rates still rising and inflation now declining, it is the best of both worlds for savers,” he added.
How higher interest rates can affect your money
1. Your credit card rate will rise
Since most credit cards have a variable rate, there’s a direct connection to the Fed’s benchmark. As the federal funds rate rises, the prime rate does, as well, and your credit card rate follows suit within one or two billing cycles.
“Credit card interest rates are already as high as they’ve been in decades,” said Matt Schulz, chief credit analyst at LendingTree. “While the Fed is taking its foot off the gas a bit when it comes to raising rates, credit card APRs almost certainly will keep climbing for at least the next few months, so it is important that cardholders continue to focus on knocking down their debt.”
Credit card annual percentage rates are now near 20%, on average, up from 16.3% a year ago, according to Bankrate. At the same time, more cardholders carry debt from month to month while paying sky-high interest charges — “that’s a bad combination,” McBride said.
At more than 19%, if you made minimum payments toward the average credit card balance — which is $5,474, according to TransUnion — it would take you almost 17 years to pay off the debt and cost you more than $7,528 in interest, Bankrate calculated.
Altogether, this rate hike will cost credit card users at least an additional $1.6 billion in interest charges in 2023, according to a separate analysis by WalletHub.
“A 0% balance transfer credit card remains one of the best weapons Americans have in the battle against credit card debt,” Schulz advised.
Otherwise, consumers should consolidate and pay off high-interest credit cards with a lower-interest personal loan, he said. “The rates on new personal loan offers have climbed recently as well, but if you have good credit, you may be able to find options that feature lower rates that what you currently have on your credit card.”
2. Mortgage rates will stay higher
Rates on 15-year and 30-year mortgages are fixed and tied to Treasury yields and the economy. As economic growth has slowed, these rates have started to come down but are still at a 10-year high, according to Jacob Channel, senior economist at LendingTree.
The average interest rate for a 30-year fixed-rate mortgage is now around 6.4% — up almost 3 full percentage points from 3.55% a year ago.
“Relatively high rates, combined with persistently high home prices, mean that buying a home is still a challenge for many,” Channel said.
This rate hike has increased the cost of new mortgages by around 10 basis points, which translates to roughly $9,360 over the lifetime of a 30-year loan, assuming the average home loan of $401,300, WalletHub found. A basis point is equal to 0.01 of a percentage point.
“We’re still a ways away from the housing market being truly affordable, even if it has recently become a bit less expensive,” Channel said.
Other home loans are more closely tied to the Fed’s actions. Adjustable-rate mortgages, or ARMs, and home equity lines of credit, or HELOCs, are pegged to the prime rate. Most ARMs adjust once a year, but a HELOC adjusts right away. Already, the average rate for a HELOC is up to 7.65% from 4.11% a year ago.
3. Auto loans will get more expensive
Even though auto loans are fixed, payments are getting bigger because the price for all cars is rising along with the interest rates on new loans, so if you are planning to buy a car, you’ll shell out more in the months ahead.
The average interest rate on a five-year new car loan is currently 6.18%, up from 3.96% last year.
The Fed’s latest move could push up the average interest rate even higher, although consumers with higher credit scores may be able to secure better loan terms or look to some used car models for better deals.
Paying an annual percentage rate of 6% instead of 4% would cost consumers $2,672 more in interest over the course of a $40,000, 72-month car loan, according to data from Edmunds.
“The ever-increasing costs of financing remain a challenge,” said Ivan Drury, Edmunds’ director of insights.
4. Some student loans will get pricier
Federal student loan rates are also fixed, so most borrowers won’t be affected immediately. But if you are about to borrow money for college, the interest rate on federal student loans taken out for the 2022-23 academic year already rose to 4.99%, up from 3.73% last year and any loans disbursed after July 1 will likely be even higher.
If you have a private loan, those loans may be fixed or have a variable rate tied to the Libor, prime or T-bill rates, which means that as the central bank raises rates, borrowers will likely pay more in interest, although how much more will vary by the benchmark.
Currently, average private student loan fixed rates can range from just under 4% to almost 15%, according to Bankrate. As with auto loans, they also vary widely based on your credit score.
For now, anyone with existing federal education debt will benefit from rates at 0% until the payment pause ends, which the Education Department expects to happen sometime this year.
What savers should know about higher interest rates
The good news is that interest rates on savings accounts are finally higher after the recent run of rate hikes.
While the Fed has no direct influence on deposit rates, they tend to be correlated to changes in the target federal funds rate, and the savings account rates at some of the largest retail banks, which have been near rock bottom during most of the Covid pandemic, are currently up to 0.33%, on average.
Also, thanks, in part, to lower overhead expenses, top-yielding online savings account rates are as high as 4.35%, much higher than the average rate from a traditional, brick-and-mortar bank.
Rates on one-year certificates of deposit at online banks are even higher, now around 4.75%, according to DepositAccounts.com.
As the Fed continues its rate-hiking cycle, these yields will continue to rise, as well. However, you have to shop around to take advantage of them, according to Yiming Ma, an assistant finance professor at Columbia University Business School.
“If you haven’t already, it’s really important to benefit from the high interest environment by getting a higher return,” she said.
Still, because the inflation rate is now higher than all of these rates, any money in savings loses purchasing power over time.