The Fed Raising Interest Rates — What Does It Mean for You?
The Federal Reserve has the ability to raise and lower the national interest rate, which can have a tremendous impact on your personal finances.
Contributing Writer at Tally
February 22, 2022
The Federal Reserve (the Fed) is the central bank of the United States, tasked with controlling monetary policy. One thing that the Fed does to influence monetary policy is to set the national interest rate, otherwise known as the federal funds rate. When the Fed raises or lowers interest rates, anything with an interest rate is impacted. This can include everything from credit cards to high-yield savings accounts.
A change in the federal funds rate (fed funds rate) has a tremendous impact on the U.S. economy. So, with the Fed likely raising interest rates this year, what does it mean for you?
We'll answer that question and more. Specifically, we'll cover what the Fed is and how they set interest rates. Then, we'll discuss how an interest rate hike may impact you. By the end of this article, you should have a much better understanding of how your finances will be impacted if and when the Fed raises interest rates.
What is the Fed, and how do they set interest rates?
According to the Fed’s website, "The Federal Reserve monitors risks to the financial system and works to help ensure the system supports a healthy economy for U.S. households, communities, and businesses."
There are different branches and committees within the Fed. The Federal Open Market Committee (FOMC) is a group of policymakers responsible for setting the federal funds rate. A change in the fed funds rate by the Fed can impact Americans in numerous ways, including:
Short-term interest rates
Long-term interest rates
Foreign exchange rates
The amount of money and credit in circulation
Employment and the labor market
Economic activity, including output
Prices of goods and services
The Fed will set these interest rates based on the state of the U.S. economy, while factoring in things like current consumer prices, the inflation rate, and other similar benchmarks. Let’s take a closer look at how a rate increase may impact you specifically.
How does a rate increase impact credit card users?
When the Fed raises interest rates, what does it mean if you have a credit card? It ultimately depends on the interest rate associated with your credit card. Many credit cards have variable interest rates. This means that your lender can change the interest rate after giving you notice, typically 30 days.
If interest rates rise under the Fed, then you can expect higher interest rates on your credit card as well. For instance, your APR may currently be 15%. After a Fed rate hike, your APR may climb a few percentage points. This will impact your personal finances, as an interest rate increase ultimately increases the cost of borrowing. If you don’t pay your balance in full by the due date, you’ll be charged interest at this higher rate.
This may not seem like much, but remember that credit card interest compounds. The exact impact that it will have is dependent on your current interest rate, your new interest rate, and your balances. But a simple rate increase could mean the difference in you having to pay hundreds, or possibly thousands, more to your credit card company in interest.
A rate increase often does not come out of the blue. For instance, Goldman Sachs has predicted that rates will rise three to four times in 2022. Fed Chair Jerome Powell also predicted rising interest rates this year. He recently said, "As we move through this year … if things develop as expected, we’ll be normalizing policy, meaning … we’ll be raising rates over the course of the year."
Additionally, if you have a variable APR credit card, you'll receive written notice from your credit card company before they increase rates. But, if you know that the Fed is considering a rate hike, it may not be a bad idea to start paying down debt. To do so, you can consider things like the debt avalanche or debt snowball methods. You can also consider using a credit card payoff app like Tally to help pay down debt.
How does a rate increase impact other borrowing options?
A rate increase could also potentially impact you in other areas, depending on what money you've borrowed. For instance, if you have borrowed money for a mortgage, a car loan or student loans, a Fed rate increase could impact your rates.
Whether your rates are impacted very much depends on whether you have a variable-rate loan. For example, if you have an adjustable-rate mortgage, your interest rate could increase if the fed funds rate increases.
Much like with a credit card, your lender is required to notify you that a rate increase is coming. Mortgage rates have been at historic lows, so lenders may be looking to increase them when possible.
However, if you have a fixed interest rate, your lender cannot change it. It cannot fluctuate along with the fed funds rate and you are locked into your rate. In these instances, you do not need to be concerned with the fed funds rate as much, as your interest rate won't change unless you elect to do so through a refinance.
Still, it may be worth doing some homework ahead of time to figure out if it's possible for your lender to change your interest rate.
If you’re looking to secure a new loan, a rise in federal interest rates will have an impact on that as well. When interest rates are higher, you’ll pay more over the life of the loan. When it comes to financing large purchases, like a home or a car, the higher interest rate may make it harder for you to afford the home or car you’d prefer to buy.
How does a rate increase impact your savings accounts?
Similar to your credit card accounts, a Fed rate increase can impact your savings accounts as well. However, unlike with credit cards and borrowing, a rate increase can actually have a positive impact on your bank accounts.
Your savings accounts (and possibly your checking account) have a rate at which you earn interest. The amount you earn may not be very noticeable in your checking or traditional savings accounts. But it may be much more noticeable on something like a high-yield savings account. If the Fed increases interest rates, then your rate of earnings on your bank account may increase as well. This would ultimately result in more money in your pocket.
However, like credit cards and other lending options, this is assuming that your interest rates are variable. If you have money in something like a certificate of deposit (CD), then you are likely locked into your rate for the duration of the term. This can be a good thing when the fed funds rate decreases during the CD’s term, as your rate of earning won't fall with it. But, if the fed funds rate increases, you won't earn a higher rate on your existing CD.
If the Fed is raising interest rates, what does it mean for your personal finances?
As discussed, the Federal Reserve is tasked with setting interest rates, otherwise known as the federal funds rate. The Fed will set these interest rates based on the state of the U.S. economy, while factoring in things like current consumer prices, high inflation, and other similar components.
The federal funds rate could have a direct impact on your personal finances. If you borrow money and you have a variable interest rate, an increase in the fed funds rate will likely mean an increase on your APR.
This means that the cost of borrowing money increases, and you are going to have to pay more in interest to pay off your debt. On the contrary, an increase in the federal funds rate could help savers and those who have cash sitting in bank accounts.
Managing your personal finances can be tricky, especially if you are trying to factor in things like a potential increase in the federal funds rate. If you're looking for a bit of guidance along the way, consider signing up for the Tally† newsletter. Tally delivers the latest financial news to your inbox directly, keeping you up to date with the latest info so that you can manage your money and reach financial freedom.
†To get the benefits of a Tally line of credit, you must qualify for and accept a Tally line of credit. The APR (which is the same as your interest rate) will be between 7.90% and 29.99% per year and will be based on your credit history. The APR will vary with the market based on the Prime Rate. Annual fees range from $0 - $300.