How Will the Fed’s Interest Rate Hike Impact the Average Joe?

In the market for a house, a new car, or do you carry a credit card balance? You’ll want to read how the fed’s interest rate hike will impact the average Joe.

federal funds rate impact

On Wednesday, The Federal Reserve decided to increase the federal funds rate by 25 basis points, to a range of 2% to 2.25%. This is the third rate increase already this year. The Fed also indicated that they’d be targeting another increase this year and three more in 2019.

The federal funds rate is the rate at which banks borrow short-term cash. At a macroeconomic level, rate hikes like this typically signal good things for the economy. When rates go up from the Fed, so do rates on things like savings accounts and CDs. It also increases rates on products like mortgages and credit cards.

In this article, I’ll break down what this rate hike, and additional hikes, mean for you as a consumer. Let’s first start with the big picture and looking at the economy.

How the Rate Increase Impacts the Economy – Big Picture

As I said before, when the Fed increases rates, it usually means something is going well for the economy. And all signs are pointing to that being the case. Unemployment is currently at 3.9%. In the last 50 years, unemployment has only been this low two times. That’s significant, and it means that more people are finding jobs. It may also signify a strengthening job market for you. The Fed projects unemployment will drop to 3.7% by the end of the year, too.

In fact, here’s what the Fed said in their official statement:

“Information received since the Federal Open Market Committee met in August indicates that the labor market has continued to strengthen and that economic activity has been rising at a strong rate. Job gains have been strong, on average, in recent months, and the unemployment rate has stayed low. Household spending and business fixed investment have grown strongly.”

They’re also targeting a 2% inflation rate–which will have an impact on the goods and services you purchase, but shouldn’t be significant. Getting to this level of inflation, according to many economists, will be one of the signs of a strong economy.

How the Rate Increase Impacts You – the “Average Joe”

While a rate increase does signify a stronger economy, there are impacts to you as the consumer. Some positive, some negative. In short, it’s good for savers and bad for borrowers.

Mortgage Rates Will Go Up

If you bought your house before the 2016 presidential election, you should be jumping for joy. Rates were at the lowest point they’ve been in several years prior right before the election finished. Since then, rates have been increasing steadily.

With the new rate increase, you’ll see an increase in mortgage rates again. This is tough news for both new home buyers and those who have adjustable rate mortgages on their existing home.

If you’re a homeowner with an ARM, I would strongly encourage you to call your lender as soon as possible and ask if they can either freeze your rate or see if there’s an option to refinance into a fixed rate. An ARM is tied to the federal funds rate, so an increase to that will lead to a direct increase to your home loan rate, and thus your mortgage payment.

If you’re a new home buyer, you have a few options. If you’re close to closing on a home, call your lender and ask them to freeze your rate (also known as doing a rate-lock). This happened to me when I was buying a home right before the election in 2016, and I knew rates would increase.

My lender tried to keep me at bay while they were “processing my loan” but I knew that they knew rates would go up–so I had to fight with them to lock it. You may have to be ready to wrestle with your lender if you’re in the process of buying a home.

If you’re considering buying a home but haven’t found one yet (and haven’t applied for a mortgage), know that the rate you’re quoted is likely to increase. You can apply and ask the lender to lock the rate, but most lenders won’t do that on new applications, especially knowing that rates will continue to climb this year.

This leaves you with the big option of continuing to rent. I could very well be wrong, but it’s my personal belief that the housing market is going to burst again in another few years.

Last year, a study found that 38 million Americans can’t afford their housing–a 146% increase in the last 16 years. What’s even more concerning is that banks are beginning to loosen lending guidelines for homebuyers.

Now there were plenty of things that caused the mortgage crisis in 2008, but loosened guidelines contributed. If you’re unsure about buying a home–it may not be a bad idea to wait this out.

Credit Card Rates Will Also Increase

The Fed increasing the federal funds rate means that credit card rates will go up. If you don’t carry a balance, this won’t have an impact on you since you don’t pay interest. But if you’re carrying a credit card balance, you can be sure to see an increase in your rate.

The Credit CARD Act put some provisions in place that prevent credit card issuers from sneaking a rate increase in on you. Since that was enacted, credit card companies have to give you at least 45 days notice before increasing your rate.

The problem is, if your rate is connected to the Prime Rate or some other index, it doesn’t matter. That rate automatically increases when the fed increases rates, so most likely you’ll see a rate increase of around 25 basis points. This may not sound like a lot, but if you’re carrying a large amount of debt, it can make a big impact on your payment and the amount you’re paying in interest.

Thankfully you have some options. The first option is to look for a credit card that has a good balance transfer offer. If approved, you can then move your credit card balance to a lower rate (be mindful of the rate it reverts to after your balance transfer promotional period ends). The second option is to call your credit card company and ask for a lower rate. If you have a good history, they’re likely to help you out.

Other Loan Products May Increase, Too

The other primary places you’ll see an impact are student loans, auto loans, and personal loans. Many times, especially when these are private loans, the rates for these products are tied to an index, such as the prime rate or LIBOR.

If you have a private student loan, there’s a good chance your rate will increase. I would suggest looking to consolidate or refinance that student loan into a low, fixed-rate product immediately. If that isn’t an option, then look to pay that loan off first, before any public student loans.

You probably won’t run into many variable rate auto loans (although they do exist) so if you have an existing car note, you should be fine. Where you may see an impact, though, is few auto loans. Rates will be higher, and you could start to see promotional rate offers go away. If you’re looking to buy a car, now might be the right time to do that.

Finally, personal loans will likely be impacted the same way credit cards are. Rates on personal loans tend to be higher than other products (as they’re normally unsecured) so you could start to see an increase in rates, but also more banks offering variable rate personal loans that are tied to the Fed’s rate increases.

Savings Account Rates Will Go Up (Finally)

An increase in the federal funds rate means an increase in rates on products like savings accounts, money market accounts, and CDs. Historically, these types of savings vehicles haven’t even been able to keep up with inflation, so keeping money in a savings account is like losing money (from an investment perspective).

Now we may start to see things change. If you’re a saver, plan to pump up your savings as much as you can, and feel comfortable moving more money into a standard savings account. You may also begin to see CDs as a realistic investment option for your portfolio again. 1-year CDs, for example, haven’t given a return above 1% since 2009. Now don’t expect rates to skyrocket and replace a typical investment strategy, but you can feel confident that by the end of this year rates will be creeping toward a respectable rate.

There are other impacts to this as well, specifically in areas with a lot of retirees. People living off of interest (like retirees living off of their nest egg) will see an uptick in their income, and thus their disposable income. From an economics perspective, this would indicate those people would spend more money, and thus continue to improve the local economy. While it’s just economics and may not be representative of all areas, if you’re in a high-retiree area, you may start to see signs of economic improvement.

New Investment Options to Consider Again

With rates increasing for borrowers, it may become less viable to secure funds through a traditional loan. This opens the door for increased profits on things like peer-to-peer lending. While still a riskier and less traditional investment option, peer-to-peer lending can be a good supplement to your existing portfolio.

Investors may also begin to consider adding more bonds to their portfolio. While bonds tend to react slower and in line with long-term economic growth, it may be worth considering adding more to your portfolio. There are mixed opinions on this, so do your research before making a big adjustment.

If you’re not the DIY type, one of the best ways of taking advantage of the fluctuating interest rate environment is by investing with a robo advisor. A good robo advisor will invest your money for you at a small percentage of the fees charged by traditional advisors. Our favorite robo advisor on the market today is Personal Capital, which sports a simple, clean design and has a proven track record for financial growth. See more about why we like Personal Capital in our detailed review.

Bottom Line

This is the eighth rate increase in three years, and with a fourth increase projected this year, it’ll top the three that went into effect last year. Raising rates is a balancing act, though. If the Fed does it too quickly, it could stifle economic growth. I would still expect another increase this year, however.

Overall, if you’re borrowing money, you’ll see a minor impact on your monthly interest. If you’re looking for new loans–such as a mortgage or auto loan–expect to pay more than you would have in the last two years. If you’re saving, you can expect to benefit from the increase–both with savings accounts and long-term products like Certificates of Deposit (CDs).

Finally, from a high-level economic perspective, an increase (and so many consecutive increases) in the federal funds rate, combined with low unemployment and the Fed’s confidence in a 2% inflation rate, is indicative of a strong economy. You should be paying down your debt and putting more into savings while this is happening. That’s where you’ll see the biggest impact on your financial position.

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