The impact of the Fed’s rate hike and what to expect next
Take away food
- The Federal Reserve on Wednesday raised its target federal funds rate by 0.75%
- Stocks rallied on the news on Wednesday before falling back to Thursday’s close
- Consumers can expect interest rates on personal, car and home loans to rise, although rates on their savings accounts may also rise
- Investors can expect more turbulence stocks expect soaring inflationthe Ukraine-Russia war and the future impact of rate hikes
The market rallied on Wednesday after the Federal Reserve raised its federal funds rate target by 0.75 percentage points. The increase marks the biggest jump since November 1994.
Wednesday’s Fed hike is the third (and largest) this year as the Federal Reserve attempts to rein in sky-high inflation. In a statement, the Federal Reserve cited high inflation driven by supply chain pressure, the war in Ukraine and Covid-19 lockdowns in China as major factors in its decision.
Following the Federal Open Market Committee meeting, Fed Chairman Jerome Powell acknowledged at a press conference that high inflation continues to cause “difficulties”. However, he further admitted that the Fed’s ability to bring down inflation without causing a recession depends on “many factors beyond our control.”
Meanwhile, economists have grown increasingly pessimistic that the Fed is bringing the economy to a “soft landing.” For example, a Financial Times poll found that most economists expect a recession next year. And in a client note, Wells Fargo wrote that they “assess next year’s recession to be more likely than not.”
Why do we have Fed hikes?
Before we dive into what this means for consumers and investors, let’s quickly recap what Fed hikes do.
The Fed controls the federal funds target rate, which determines how much interest banks pay to borrow overnight. Although consumers do not pay this rate directly, raising the federal funds rate often raises other interest rates as well.
By raising the funds rate, the Federal Reserve can increase the cost of borrowing money for consumers and businesses. This limits the willingness – and often the ability – of Americans to spend money. As a result, demand falls, and with it, prices.
Thanks to this mechanism, the Fed’s rate hikes are one of the most effective tools at its disposal to combat inflation. That said, this often comes with unfortunate side effects, such as higher unemployment and even the risk of recession.
Fed rate hike: future impacts on consumers
Rising interest rates will most likely curb runaway inflation, ultimately. In the meantime, consumers will feel the pinch on both sides.
On the one hand, inflation continues to rip dollars out of wallets. And on the other hand, the rise in interest rates makes it more expensive to buy on credit, take out a car loan or buy a new house.
However, all is not bad.
Hello, higher preferential rates
Generally speaking, when the Fed increases the funds rate, the prime rate also increases. The prime rate is what many lenders use as the “base rate” to determine interest on credit cards, auto loans, and personal loans.
Therefore, over the next few months, consumers can expect their interest rates on most loan products to rise. Already, credit card rates are averaging around 16.45%%, with further increases expected before the end of the year.
Mortgage rates are also up, hitting 5.97% this week from just 3.1% six months ago. Consumers can also expect auto loan rates to start climbing soon.
Savings increase along the way
But consumers can expect to benefit in at least one area: deposit accounts.
Often when the Fed raises rates, bank deposit accounts also generate higher returns. Already, some online and smaller banks have slashed rates on savings and money market accounts as high as 1.50%. Certificates of deposit (CD) have capped at 2.60% this week, beating even high-yield savings accounts. However, if you want this level of interest, you will need to lock in your money for five years.
That said, while some banks have already hiked rates, others are unlikely to follow suit any time soon. Many large national banks will only raise their rates marginally (if at all) because they don’t need to attract more consumers with higher savings. That’s why, even though the Fed hikes are on the up, the national average savings account interest rate remains at a paltry 0.07%.
What does the market hold?
In the days leading up to Wednesday’s meeting, stocks plunged following extremely high inflation data in May. But now that the dust has settled and the rate hike has passed, the market’s reaction has been slightly surprising.
On Wednesday, stocks rebounded slightly, reassured by the Fed’s stance that their next rate hike will depend on forthcoming data. Investors took this to mean that while the Fed was serious about inflation, it was also unwilling to take unnecessary risks that would push the economy into a recession.
Thursday saw the market come down to earth, so to speak, with all three major indices ending the day in the red. Still, that’s not entirely shocking either, given the performance of the last few months.
If the past two days are any indication, it seems likely that the stock market will continue its bumpy ride.
Investors still have time to fully digest the news of the Fed hike and see where the economy will feel the impacts. General economic anxiety, the Russian-Ukrainian war, soaring gas prices and the market correction from pandemic-era highs have (and likely will continue) to contribute to market volatility.
All in all, it’s unclear exactly what the near future holds for the stock market – but it seems likely that there are still a few ways down.
What the Fed’s rate hike means for you
When interest rates rise, one group of people almost always wins: savers. Anyone with cash piled into their bank account should see higher income through higher interest rates. (Assuming you’re in the bank somewhere that drives rates up when the Fed does.) That’s a big plus for anyone with a big emergency savings fund to fall back on.
Unfortunately, with inflation as high as it is right now, stashing money in a savings account always means losing purchasing power.
At Q.ai, we understand how important it is to maintain stability in the face of rising interest rates, soaring inflation, and general economic uncertainty.
This is why we have brought together our Inflation kit to help investors take advantage of skyrocketing inflation, even when interest rates are rising. For our Signature kits, we also offer Wallet Protectionwhich can provide greater security and risk protection, even when the broader market falls.
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