Mortgage rates continue to rise, home sales are plummeting, and credit card and auto loans are on the rise. Savings interest, however, is a bit juicier.
With the Federal Reserve steadily raising interest rates, many economists fear a recession remains inevitable in the coming months – and with it job losses that could strain households already worst hit by inflation.
On Wednesday afternoon, the US Federal Reserve is expected to raise its short-term interest rate by three-quarters a point for the fourth straight day, although earlier hikes have been felt by households of all income levels. That would be the sixth rate hike in a row.
The Fed’s latest move would raise its benchmark interest rate to a range of 3.75% to 4%, its highest level in 14 years. The steady rise in interest rates has already made it increasingly expensive for consumers and businesses to borrow money – for houses, cars and other purchases. And more hikes are almost certain to come. Fed officials are expected to signal on Wednesday that their benchmark interest rate could reach as high as 4.6% by early next year.
Here’s what you should know:
HOW DOES RAISING RATES REDUCE INFLATION?
If one definition of inflation is “too much money chasing too few goods,” then by making it more expensive to borrow money, the Fed hopes to reduce the amount of money in circulation and eventually lower prices.
WHICH CONSUMERS ARE MOST AFFECTED?
Anyone who borrows money to make a big purchase like a house, car, or large appliance will take a hit, according to Moody’s Analytics analyst Scott Hoyt.
“The new rate increases your monthly payments and your costs quite dramatically,” he said. “It’s also affecting consumers who have a lot of credit card debt — that’s going to hit immediately.”
However, Hoyt noted that household debt payments remain relatively low relative to income, although recently they have been rising. Even if borrowing rates are steadily rising, many households may not immediately feel a much higher debt burden.
“I’m not sure interest rates are a priority for most consumers right now,” Hoyt said. “They seem more concerned about groceries and what’s going on at the pump. Prices can be a bit difficult for consumers to worry about.”
HOW WILL THIS AFFECT CREDIT CARD FEES?
Even before the Fed’s latest decision, credit card lending rates were at their highest level since 1996, according to Bankrate.com, and are likely to rise further.
And with inflation rising, there are signs that Americans are increasingly relying on credit cards to sustain their spending. Total credit card balances have surpassed $900 billion, a record high, according to the Federal Reserve, although that amount is not adjusted for inflation.
John Leer, chief economist at Morning Consult, a survey research firm, said his survey suggests more Americans are spending the savings accumulated during the pandemic and using credit instead. Ultimately, rising interest rates could make it harder for these households to pay off their debts.
Those who do not qualify for low-cost credit cards due to poor credit are already paying, and will continue to pay, significantly higher interest rates on their balances.
As interest rates have risen, zero-percent loans, marketed as “buy now, pay later,” have also become popular with consumers. However, longer-term loans of more than four installments offered by these companies are subject to the same increased lending rates as credit cards.
For people with home equity lines of credit or other adjustable-rate debt, interest rates will rise by about the same amount as the Fed hike, usually within a accounting cycle or two. That’s because these interest rates are based in part on the banks’ benchmark rate, which tracks that of the Fed.
WHAT IF I WANT TO BUY A CAR?
Since the Federal Reserve began raising interest rates in March, the average new-car loan has risen nearly 2 percentage points, from 4.5% to 6.3% in October, according to auto website Edmunds.com. Used car loans are up 1.5% to 9.6%. The credit periods have become somewhat longer for both new and used cars and are a little over 70 months on average.
Crucially, however, is the monthly payment that most people base their car purchases on. Edmunds says it’s up $46 since March for new vehicles to $703. The payment increases by $21 per month for used vehicles to $564.
Edmunds Director of Insights Ivan Drury says the increased payments probably won’t make a huge difference in buying habits, but they’re reaching amounts that could discourage people from buying. “Now that we’re above $700 a month (for new vehicles), people will exit the market,” he said.
HOW ARE SAVERS INFLUENCED?
Soaring yields on high-yield savings accounts and certificates of deposit (CDs) have taken them to levels not seen since 2009, meaning households should increase their savings wherever possible. You can now also earn more from bonds and other fixed income investments.
Although savings, CD, and money market accounts typically don’t track Fed changes, online banks and others that offer high-yield savings accounts can be exceptions. These institutions typically compete aggressively for depositors. (The catch: They sometimes require significantly large deposits.)
In general, banks tend to capitalize on a higher interest rate environment to increase profits by charging higher rates to borrowers without necessarily offering lower rates to savers.
WILL THIS AFFECT RENTALS? OWNERSHIP?
Last week, the average fixed-rate mortgage rate topped 7%, a 14-year high, meaning home loan rates are about double what they were a year ago.
Mortgage rates don’t always move perfectly in line with the Fed hike, instead following the expected yield on the 10-year Treasury note. The yield on the 10-year government bond has reached its highest level since 2011 at 4%.
Existing home sales have declined for eight straight months as the cost of borrowing has become too high a hurdle for many Americans who are already paying more for groceries, gas and other necessities.
WILL IT GET EASIER TO FIND A HOUSE IF I STILL WANT TO BUY?
If you’re financially able to buy a home, you probably have more options than you ever had in the past year.
HOW HAVE PRICE RISE AFFECTED CRYPTO?
Cryptocurrencies like bitcoin have lost value since the Fed started raising interest rates. The same is true of many previously highly rated tech stocks. Bitcoin has plummeted below $20,000 from a high of around $68,000.
Higher interest rates mean safe-haven assets like Treasuries have become more attractive to investors because their yields have risen. This, in turn, makes risky assets like tech stocks and cryptocurrencies less attractive.
Nevertheless, Bitcoin continues to suffer from economic policy problems. Two major crypto companies have failed, shaking crypto investor confidence.
WHAT DOES THE RATE INCREASE REQUIRE?
The short answer: inflation. Inflation last year was a painful 8.2%. So-called core prices, which exclude food and energy, also rose faster than expected.
Fed Chair Jerome Powell warned last month that “our responsibility for maintaining price stability is unconditional” – a remark widely interpreted to mean that the Fed will fight inflation with rate hikes, even if it means massive job losses or a recession.
The goal is to curb consumer spending, thereby reducing demand for homes, cars, and other goods and services, ultimately cooling the economy and lowering prices.
Powell has acknowledged that aggressively raising interest rates would “entail some pain.”
WHAT ABOUT MY WORK?
Some economists argue that widespread layoffs will be necessary to curb rising prices. One argument is that a tight labor market fuels wage growth and higher inflation. In August, the economy created 315,000 jobs. About two jobs are advertised for every unemployed person.
“Vacancies continue to outstrip vacancies, suggesting that employers are still struggling to fill vacancies,” said Odeta Kushi, an economist at First American.
WILL THIS AFFECT STUDENT LOANS?
Borrowers taking out new personal student loans should be prepared to pay more when interest rates rise. The current range for federal loans is between about 5% and 7.5%.
However, federal student loan payments will be suspended interest-free until December 31 as part of an emergency measure put in place at the start of the pandemic. President Joe Biden has also announced certain loan forgiveness of up to $10,000 for most borrowers and up to $20,000 for Pell Grant recipients.
IS THERE A CHANCE THE RATE RISE WILL BE REVERSED?
Stock prices rose in August on hopes that the Fed would change course. But it’s looking increasingly unlikely that interest rates will fall any time soon. Economists expect Fed officials to signal further hikes in 2023, potentially to nearly 5%.
IS THERE A RECESSION?
Short-term interest rates at these levels make a recession more likely as the cost of mortgages, auto loans, and business credit rises. While the Fed hopes that higher borrowing costs will slow growth by cooling the hot labor market and limiting wage growth, there is a risk that the Fed could weaken the economy and cause a recession that would lead to significant job losses.