The Fed Raises Rates By Another 75 Basis Points: How That Can Affect Your Money

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On July 27, the Federal Reserve announced another big rate hike, raising the federal funds rate by 75 basis points (bps), to a range of 2.25% to 2.5%.

This move follows a 75 basis-point hike in June and two smaller rate hikes at the March and May Federal Open Market Committee (FOMC) meetings—all part of the central bank’s strategy to fight stubbornly high inflation.

The Fed’s decision today is not as aggressive as the 100 bps increase that had been rumored for the FOMC’s latest meeting. But it’s more bold than the smaller hikes that started the year, indicating the Fed’s desire to get inflation under control as soon as possible.

The FOMC will meet three more times in 2022. Federal Reserve Chair Jerome Powell said in a press conference following the latest announcement that another “unusually large” rate hike could “be appropriate” at the next meeting in September.

“These rate hikes have been large and have come quickly and it’s likely that their full effect hasn’t been felt by the economy,” Powell said. “There’s probably significant additional tightening in the pipeline.” 

The latest PCE reading showed consumers are paying prices up 6.3% over the prior 12 months. Fed economists estimate that PCE inflation will remain high, but should decline to 5.2% by the end of 2022. Note that is hotter than the 4.3% forecast made back in March.

Read more: The Personal Consumption Expenditures (PCE) Price Index

Unfortunately for stretched consumers, inflation can take a long time to get under control, and it may take several months for the Fed’s moves to work their way into the economy—although some financial effects of its policies, such as higher interest rates on borrowed money, can be felt more quickly

Why Is the Fed Raising Rates?

The short answer: To get record-high inflation under control.

Americans have been slammed by double-point percentage increases on the prices of just about everything they need to survive: Food. Gas. Utilities.

Changing the target for the federal funds rate is one of the few tools the central bank can employ to stabilize an overheated economy and moderate demand for goods, which can reduce inflation.

For months, Powell and other Fed officials have been repeating over and over that the four-decade highs in U.S. inflation rates were making tighter monetary policy an absolute necessity. It’s also become clear that the jobs market has almost entirely healed as the Covid-19 pandemic wanes, with the unemployment rate at 3.6%.

Congress has bestowed two jobs on the Fed: keep prices under control and promote full employment. It appears that the latter job is done, so the Fed is moving to tackle the former by tightening monetary policy.

Analysts expect the Fed to deliver two more hikes in 2022. The Fed has projected the median federal funds rate will reach 3.4% by the end of 2022.

Here’s the big challenge: The Fed must raise rates to curb inflation, but it can’t increase rates too high, or it could cause a recession. And some economists believe it’s getting increasingly difficult for the Fed to straddle this line and avoid a shrinking economy.

Read more: Is A Recession Coming? 

It will take a while to see whether rate increases can tame inflation. But tighter monetary policy can immediately impact your finances, from your borrowing power to your savings account interest and whether or not you should refinance your mortgage.

4 Ways The Fed Rate Increase Can Affect Your Money

1. Fed Rate Increases Affect the Stock Market—But Not Necessarily How You’d Think

Fed rate increases have a pretty ambiguous impact on the stock market. On the one hand, higher rates may incentivize some investors to sell stocks and take profits. But there’s plenty of evidence that over the longer term, rate hikes don’t hurt stocks.

In the short term, the most significant immediate impact of rate increases is on market psychology. When the FOMC raises rates, professional traders might quickly sell stocks and move into more defensive investments, without waiting for higher rates to work their way through the economy.

But over the longer term, the data shows that stock markets can rise in some cases when the Fed tightens monetary policy.

Dow Jones Market Data analyzed the five most recent rate hike cycles to see what history says about stock market returns in these periods. Their analysis showed that during these five long-term periods, the three leading stock market indexes only declined during one rate hike cycle, from June 1999 to January 2001, during the dot-com crash.

2. Credit Card Interest Becomes More Expensive

When the Fed raises interest rates, your credit card debt becomes more expensive. That’s because the interest rates on consumer debt like carrying a balance on a credit card tend to move in lockstep with the Fed’s rate.

The Fed’s interest rate policy impacts how much commercial banks charge each other for short-term loans. A higher fed funds rate means more expensive borrowing costs, which can reduce demand among banks and other financial institutions to borrow money.

The banks pass on these higher borrowing costs by raising the rates they charge for consumer loans. Most credit card issuers set your APR based on the prime rate, which is the rate banks charge the least risky customers for a loan.

Most credit cards charge a variable APR based on a combination of the prime rate plus a percentage on top of that to cover both operating costs and make a profit.

The “variable” part means the interest rate you agree to pay when approved for a new card can fluctuate based on the prime rate. So if your credit card APR is 16.25% and the Fed increased its federal funds rate by 50 points, your issuer would likely raise your APR to 16.75%.

The higher the interest rate that’s applied to your credit card balance, the more expensive it is to carry that debt. Consider paying your debt down as much as possible or take advantage of a 0% APR balance transfer card to help reduce how much extra money you’ll pay on your debt.

Read more: Compare the Best Balance Transfer Cards

3. Mortgages and Loans Become Costlier

Another Fed rate hike means that those borrowing to buy a house or to tap their current home equity could face a bigger housing bill in the coming months.

Shorter-term home loans with floating rates like adjustable-rate mortgages (ARMs) and home equity lines of credit (HELOCs) are tied to the Fed funds rate, so when the Fed’s rate rises, ARM and HELOC rates soon follow.

With ARMs, there’s an initial period when the rate is fixed before transitioning to an adjustable rate. However, due to the recent spike in the 30-year, fixed-mortgage rates, ARM rates have been lower and more attractive to some borrowers.

The 30-year, fixed-rate mortgage averaged 5.54% compared to the average 5/1 ARM of 4.31% as of July 21, according to Freddie Mac. Still, any action by the Fed to hike its rate will likely lead to higher ARM and HELOC rates.

Read more: Current ARM Rates

As far as fixed-rate mortgages go, a Fed rate increase does not directly impact these longer-term loans, but it does influence movement. The recent rise in fixed mortgage rates is a combination of Fed policy, recessionary concerns and inflation.

Longer-term mortgage rates are more so impacted by the 10-year Treasury note yield: When the yield rises, so do rates. The Fed’s latest rate hike is a potential trigger for recession, which prompts investors to park their cash in safe-haven assets like the 10-year Treasury note. Similarly, rising inflation usually drives rates higher as lenders have to offset borrowers’ diminishing purchasing power.

But not everyone thinks higher mortgage rates are a terrible thing. Some real estate professionals see higher rates as one way to cool skyrocketing home prices and give first-time homebuyers a shot at getting a home they can afford.

“If mortgage rates stay the same or go up a bit, we’ll continue to see a decline in [home] prices,” says Gordy Marks, managing broker at RE/MAX Northwest in Kirkland, Washington.

For buyers sensitive to rate fluctuations, housing experts say borrowers should seek different financing options, like locking in your interest rate now when it’s likely mortgage rates will keep climbing. Rate locks typically last 30 days, but some lenders offer longer locks, usually for a fee.

“The rising interest rate environment that we are experiencing now could be beneficial for some borrowers to pay for an extended rate lock,” says Michael Gifford, CEO and co-founder of Splitero, a company that lends money in exchange for a share of a homeowner’s expected equity. “Additionally, larger down payments will result in lower rates in most scenarios.”

As for student loans, some private loans are influenced by Fed rates, so there’s a possibility the interest rates on those could rise. All in all, it’s a good time to make sure you understand the loans you have, and consider refinancing them before rates increase more—but only if the cost to refinance is still worth the savings overall.

4. Rates on Savings Accounts Rise—but Slowly

Rising Fed interest rates are a good omen for savers, who are seeing the rates on savings accounts creep up.

There’s no direct link between the federal funds rate and deposit rates. But banks are slowly increasing the annual percentage yield (APY) they pay on deposit accounts—including savings accounts, money market accounts and certificates of deposit (CDs). Financial institutions raise their rates to attract deposits, but they currently have plenty of cash on hand and can take their time with hiking yields.

How quickly you’ll see higher APYs on deposits depends on where you bank. Online banks, smaller banks and credit unions typically offer more attractive yields than big banks and have generally been increasing rates faster because they have to compete more for deposits.

Stashing your cash at an online bank or credit union may be your best bet if you’re looking for a higher yield. While the national average rate on a savings account has inched up from 0.06% to 0.10% since January, according to the FDIC, the best high-yield savings accounts pay up to 5.00% APY on some deposits. Where you park your cash matters, especially during times of increasing inflation.