Due to years of low interest rates, Americans are finding it increasingly challenging to manage their debt. One reason: as interest rates increase, it becomes costlier to borrow money whether via credit cards, mortgage or auto loan and any possible federal rate hike will have even more of an effect.
On Wednesday, the Federal Reserve raised its key short-term interest rate by one-quarter of one percentage point - its biggest move in 28 years - as part of its efforts to curb an unprecedented inflation spike that is continuing its relentless march upward. And with unemployment below 2% and inflation still falling short of their targets, rates may well continue to rise next year.
When the federal reserve raises its key interest rate, it essentially makes borrowing money more expensive by raising the cost of borrowing - this then causes consumption to slow and helps bring inflation back within its target of 2%. But its effects can take time to have an effectful ripple-down through the economy into consumer spending habits; additionally, the Fed doesn't directly increase consumer interest rates but rather alters bank loan interest rates accordingly.
Consumers cannot predict exactly how the rate hikes of 2022 will impact them until they see how their lenders charge, although experts expect rates to go up at all eight remaining Federal Open Market Committee meetings, including 2023.
Though the Fed can't directly manipulate consumer interest rates, it can indirectly do so by buying or selling trillions in Treasury bonds and mortgage-backed securities - these purchases or sales have an immediate ripple effect throughout the financial system affecting everything from mortgage rates to credit card charges.
Homeowners could find it harder to secure mortgage loans at more reasonable interest rates and monthly payments may increase. On the other hand, for those carrying private student loans with variable rates such as private student loan debt, now might be an opportune time to refinance to lock in what are expected to be lower rates over time.
As credit card and personal debt holders know, each increase in the federal funds rate can add an extra $25 annually in interest payments for $10,000 of debt. According to estimates by WalletHub, rate hikes by the Fed this year alone will cost borrowers over $29 billion; you can see how each hike affects you financially in our infographic below and for more on what can be expected, check out our guide on how fed rate hikes work.
