What A Federal Reserve Interest Rate Hike Means To You
By Burt Carey
Federal Reserve Chairman Janet Yellen is fully expected to impose the first increase in benchmark lending rates this week, the first such increase in seven years.
What a rate increase signals is that the Fed believes the U.S. economy is now healthy enough to raise the cost of borrowing money. The first effects will be felt by business owners and consumers in some key areas such as auto loans, credit card interest rates, home mortgages and bank savings accounts.
The federal fund rate is what banks charge each other in overnight lending. The rate affects rates on loans made from a few weeks to up to 30 years. Yellen referred to the possible action as a “lift-off,” which means the Fed will slowly raise rates over time, although rates are expected to be lower than historical averages.
“While interest rates charged on revolving credit [like credit cards and home equity loans] are pegged to the target Federal funds rate, credit card rates in particular have a large variable spread component,” said Morgan Stanley’s Paula Campbell Roberts. “Further, rates on mortgages and auto loans are also driven by market dynamics, i.e. the available supply of and demand for credit.”
Experian analysts report that Americans purchased more than 17 million new cars from Nov. 1, 2014 to Oct. 30, 2015. The last time that many new cars hit the U.S. roads was in 2006, two years before the financial crisis. Auto companies have extended loans out to seven years for some buyers, making monthly payments lower and giving them the ability to stretch their paychecks.
An increase in the federal fund rate will result in higher costs for loans made toward purchasing cars.
After nearly two years of unprecedented low mortgage rates, lenders have been raising their rates slowly over the past several months in anticipation of the Fed’s move. This should lighten any increases that will be felt with the Fed’s action, at least initially.
An increase from 4 percent to just 4.25 percent for a 30-year loan on a $200,000 home will increase a monthly mortgage payment more than $58, or about $700 per year. Over the life of the loan, that slight shift will total about $21,000.
Analysts estimate the average mortgage loan rate by the end of 2016 will be in the 5 percent range.
It could be several months before CDs and savings accounts experience any appreciable increase for people with money saved at banks. Eventually, higher interest rates will allow banks collecting from consumers to pay higher returns on savings accounts and CDs.
This will have a positive effect on retirees, who typically live on fixed incomes with their savings held by banks.
Source: Sportsmans Lifestyle