What Does the Interest Rate Hike Mean?

Wednesday, August 10, 2022
   
Man opens wallet and pulls out money

For the first time since 2018, the Federal Reserve has raised the benchmark federal funds rate. In fact, to combat persistent inflation and soaring prices, they have raised rates multiple times this year and several more increases could follow soon. These increases have been significant. The increases have a cascading effect that flows through U.S. government bonds, mortgages and other types of loans. And it can have a big effect on your bottom line.

Here’s what you need to know about the rate hike impact on your finances.

What is a rate hike?

Interest rates on consumer debt are directly tied to the economy by the Federal Reserve. When the economy is weak, the Fed lowers the federal funds rate. This means that lenders and creditors lower their interest rates to encourage consumers to borrow. This helps spur the economy.

But during a strong economy, the Fed raises the federal funds rate to help combat inflation. In turn, lenders and creditors raise their interest rates, too. That’s why interest rates are higher now than they were if you’d gotten the same loan or credit card a year ago.

How does the rate hike impact consumer debt?

Anytime the Fed raises their rate, it can impact some of your existing debts, as well as any new debts.

Rate hike impact on new loans

Any new loans that you take out now will have a higher rate than what you could have qualified for earlier this year. Keep in mind that the Fed has indicated that they will continue raising interest rates to help keep our economy strong and fight inflation. So, if you’re planning on taking out a new loan, you should consider getting organized, so you can apply soon. The longer you wait, the more likely you are to face even higher rates.

Rate hike impact on existing loans

If you have existing loans, the rate hike will only affect them if you have adjustable interest rates. For any fixed-rate loans, the interest rate is locked in, meaning it won’t change unless you refinance. But the rates on any adjustable-rate loans may increase the next time your loans adjust. Some adjustable-rate loans adjust periodically, such as every month. Other adjustable-rate loans, known as hybrid loans, only adjust once.

For example, if you have a hybrid 5/1 mortgage, that means that the interest rate will adjust once after five years. If your rate adjustment is coming up, then expect the interest rate on the loan to increase.

And bear in mind that even a small increase in the rate on a large loan like a mortgage will have a big impact. Even just a small increase could equal out to tens of thousands of dollars extra paid over the life of your mortgage. So, if you have an adjustable-rate loan, you may want to talk to your lender to see if you can refinance. If you can lock in a fixed-rate loan now, it will help you save money.

Rate hike impact on credit cards

Almost all credit cards have adjustable rates – fixed-rate credit cards exist, but they are extremely rare. So, credit users can expect their interest rates to increase within the next few billing cycles.

The best news about the rate hike? Now your savings can grow faster!

Rate hikes aren’t good for borrowers because they mean higher interest charges. But on the flipside, rate hikes are extremely good for savers. Not only do changes to the federal funds rate affect consumer debt, they also affect consumer savings, too. Savings tools have APY (Annual Percentage Yield) – that’s the interest rate that determines how much money you make on an account. Just like higher APR means your debt costs more, higher APY means that you earn more.

The rate hike impact on saving money is positive - your savings can grow faster

So, higher interest rates are good news for savers.