A finance expert weighs in.
With its latest hike in interest rates, the Federal Reserve is giving a whole new meaning to the phrase “no pain, no gain.”
The central bank, which is responsible for controlling the supply of U.S. dollars, on Wednesday raised rates by another 0.75 percentage points, bringing its benchmark rate up to a target range of 3 to 3.25 percent — the level highest since the Great Recession in 2008.
But there’s a strategic goal behind the move: The Fed hopes that raising interest rates will help to pump the brakes on the runaway inflation that’s squeezing consumers as prices climb for essential purchases like food and energy. So by making it more expensive to do certain things, like get a mortgage or credit card, the Fed hopes to tamp down this consumer demand that’s quickly outstripping supply.
Then again, this is far from the first time the Fed has made such a move — it has already raised rates four times this year alone. Fed chairman Jerome Powell has vowed to continue to fight inflation until it’s brought down from more than 8 percent (where it stands now now) to the Fed’s target of about 2 percent. But it remains to be seen whether these continual hikes are actually helping the struggling U.S. economy.
“Fed hikes do have an effect, but that takes time — they don’t happen overnight,” Bankrate’s chief financial analyst Greg McBride tells KCM. “It raises the cost of borrowing, but it also slows spending and investment, and that reduced demand is what will bring prices under control.”
Here’s a breakdown of some key areas where you may feel some effects of the Fed’s strategy.
With the new 0.75 percent hike, Americans with credit card debt — or 55 percent of the population — can expect to collectively pay an extra $5.3 billion in interest this year, according to the personal finance website WalletHub. Credit rates are already over 18 percent, as McBride points out, and he estimates that they could go as high as 20 percent before long.
The creep in interest is costing homebuyers a lot of their purchasing power, according to McBride. Mortgage rates have more than doubled since the beginning of the year, from around 3 percent to more than 6 percent — which translates to about $30,600 more in interest payments over the lifetime of a mortgage, assuming a 30-year-term on an average home loan of $409,100, according to an analysis by WalletHub.
“The increase in mortgage rates alone has the same impact on affordability as a 28 percent increase in home prices,” says McBride.
Still, these higher mortgage rates have thrown cold water on a red hot housing market, with home prices in August dropping 6 percent from their peak of 18 percent in June.
McBride expects the interest rate hike’s impact on car loans to be “comparatively modest.” He also adds that any significant increase in this area has more to do with the higher cost of cars — specifically larger trucks and SUVs, which he says remain popular.
The average new car purchase has jumped from $39,000 in 2020 to a record high of more than $48,000 this year, according to Kelley Blue Book historic data. This uptick has at least partly to do with the coronavirus pandemic, when Americans were forced indoors and automakers halted production amid a microchip shortage.
For Americans whose loans don’t quality for the sprawling forgiveness program announced by the Biden administration, you could wind up paying more interest on any outstanding private loans as the Fed continues to raise rates. Though these can vary based on credit scores, these rates have already surged from 2.75 percent for 2020-2021 academic year to 4.99 percent for 2022-2023.
But there’s an unexpected upside…
Interest rates on savings accounts are also on the rise following the rate hikes. Savings account rates from some of the largest retail banks are up 0.13 percent after hitting a near-rock bottom. It’s even better for online banks, with saving account rates pushing as high as 3 percent, thanks in large part to the lack of overhead expenses that traditional banks have, such as rent for their physical locations.
“Savers are doing better, but you’ve got to look in the right place,” McBride tells KCM. “A lot of banks are still being pretty stingy about what they’re paying on deposits, but shopping around does pay off — smaller community banks, credit unions, and online banks are much more competitive and we’re seeing higher returns.”