How Fed's bigger, faster rate hikes will affect your credit card, mortgage, savings rates
- The Fed could raise its benchmark interest rate now by 75, instead of 50, basis points.
- That would be the largest one-time increase since 1994, and economists expect much more to come.
- Consumers should hurry to organize their debt and lock in mortgage rates.
Americans have been bracing for higher borrowing costs, with the Federal Reserve having started an interest rate hiking cycle to stymie soaring inflation. But with prices re-accelerating in May to fresh 40-year highs, those rate increases are taking on more urgency and now, investors should expect those higher costs to come faster than expected.
The Fed's policy-making committee announced a 75-basis-point rate increase on Wednesday, the largest one-time increase since November 1994. Until the May consumer price report last week showed a blistering 8.6% inflation rate, economists had expected a 50-basis-point increase in the benchmark fed funds rate.
“It means your debt is going to get a lot more expensive in a hurry,” says Matt Schulz, chief credit analyst at Lending Tree.
And that’s just the beginning.
How many interest rate hikes expected in 2022?
An interest rate increase is likely every meeting for the rest of the year. But the bigger question is by how much?
After the last Fed meeting in May when the Fed raised the fed funds rate by a half-point, Fed chairman Jerome Powell said another 50 basis points in June and July "should be on the table." Then, Powell suggested a possible slowdown in rate increases if inflation showed signs of cooling. But that half-point for June was replaced with a 75-basis-point move, it's hard to tell how things will shape up.
After this week, JPMorgan chief U.S. economist Michael Feroli forecasts the Fed will continue to raise rates by 50 basis points in July and September before slowing to a 25-basis-point hike per meeting pace until the fed funds rate reaches the 3.25%-3.50% range early next year.
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Paul Ashworth, chief North America economist at Capital Economics, was more aggressive with two 75-basis-point rate hikes in a row to take the fed funds rate range to 2.25% to 2.5% in July. But that's not all.
"We previously expected the fed funds rate to peak at between 3.25% and 3.50% in the first half of next year," he said. "That forecast is obviously too low, with the peak now likely to be nearer 4%."
“It’s really the cumulative effects of all these increases” that will pinch borrowers, Schulz says.
On the bright side, consumers, especially seniors and others on fixed incomes, will finally see bank deposit rates rise from paltry levels, especially for online savings accounts and CDs.
What is the inflation rate in 2022?
Fed policymakers have felt an urgency to act more swiftly after the consumer price index reaccelerated to a fresh 40-year high of 8.6% in May from 8.3% in April. The Fed had held its federal funds rate near zero for two years to make borrowing cheaper and encourage spending to help lift the economy out of a COVID-19-induced recession.
But the Fed now finds itself in a delicate position: It must raise rates to cool spending and inflation without tipping the economy into recession. But economists increasingly believe a recession will be unavoidable as inflation squeezes households and now, higher rates will too.
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Wednesday’s rate increase will have the biggest impact on credit cards, adjustable-rate mortgages and home equity lines of credit. All are directly affected by Fed moves.
Americans with 30-year adjustable-rate mortgages and those shopping for mortgages already feel the effects because most of this year’s projected Fed increases are figured into mortgage rates. Car buyers will be nicked but less dramatically.
“Rising interest rates mean borrowing costs more, and eventually saving will earn more,” says Greg McBride, Bankrate’s chief financial analyst. “This hints at the steps households should be taking to stabilize their finances – pay down debt, especially costly credit card and other variable-rate debt, and boost emergency savings.”
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How rising rates affect credit cards, adjustable mortgages, HELOCs?
Credit cards, adjustable-rate mortgages and home equity lines of credit, or HELOCs, will become pricier within one or two months. That's because they’re tied to the prime rate, which in turn is linked to the Fed’s benchmark rate. In other words, a Fed point increase is largely passed along.
Credit card rates are averaging 16.68%, as of June 8, according to Bankrate.com. For a $5,000 credit card balance that you pay the minimum $25 per month on, a 75-basis-point increase probably will add about $342 in interest over the expected length of the loan.
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Schulz says consumers with good credit can qualify for a balance transfer card that charges zero interest for a year or more. Consolidating debts into a personal loan with a lower fixed monthly rate is also a good option, he says.
The average rate for a 10-year home equity line of credit is 4.74%. A 0.75% increase on a $50,000 credit line raises the total interest paid over the life of the loan by $7,500, assuming you pay only the minimum monthly payment.
By contrast, adjustable-rate mortgages are modified once a year after the fixed-rate period ends, typically after five years. The effects will be delayed, but then it could sting as your rate catches up with the increases.
Are home interest rates going up?
Thirty-year fixed-rate mortgages trace movements in the 10-year Treasury note and are affected by the Fed’s key short-term rate only indirectly. The outlook for the economy and inflation are also big factors.
Homeowners with existing fixed-rate mortgages won’t see any changes. But recent and prospective homebuyers are being socked by higher rates that take into account projected Fed increases through much of 2022.
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The average 30-year fixed rate is at 5.23%, according to Freddie Mac, up from 2.96% a year ago. That has raised the typical monthly principal and interest payment on a $300,000 mortgage by $312.
“Homebuying has become more difficult for many in the market,” says Lending Tree senior economic analyst Jacob Channel. A silver lining, he says, is that it should cool demand for homes, slowing torrid price growth and providing buyers more options and some relief from bidding wars.
Existing home sales have already dropped by 14% since the start of the year and, at 5.61 million units annualized in April, were close to a two-year low. With mortgage rates continuing to rise, sales are set to fall even further, analysts said.
How does Fed affect auto loans?
A half-point Fed rate increase Wednesday should make its way to new auto loans, but the toll should be less painful. Typically, the cost of a quarter-point increase in rates on a $25,000 loan is just a few dollars extra per month, experts say.
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How does Fed affect bank savings interest rates?
As Fed rates rise, banks will be able to charge a little more for loans, giving them more profit margin to pay a higher rate on customer deposits.
Don’t expect a fast or equivalent increase on most savings account and CD rates, says Ken Tumin, founder of DepositAccounts.com.
Since the pandemic, banks have been flush with deposits, and demand for loans has been weak because of the COVID-19-related downturn, Tumin says. In other words, most brick-and-mortar banks don't really need your money.
The average savings rate is a minuscule 0.07%, even after the Fed's rate increases this year. The average one-year CD has inched up after the Fed’s move, but still a tiny 0.28%. Those probably won’t budge much after the Fed acts Wednesday.
“Most of the action will be with online banks," Tumin says. They have lower costs and face more intense competition since consumers can more easily transfer their money from one online bank to another, he says.
The average online savings rate has risen to around 1%, and a typical online one-year CD has jumped about a half a percentage point to around 1.5%.
For CDs, online banks are anticipating future Fed moves and trying to coax consumers into locking in a relatively high CD rate that will still be a bargain for the bank after the flurry of Fed increases.
Medora Lee is a money, markets, and personal finance reporter at USA TODAY. You can reach her at firstname.lastname@example.org and subscribe to our free Daily Money newsletter for personal finance tips and business news every Monday through Friday morning.
Contributing: Paul Davidson