Navy Federal Credit Union’s Corporate Economist on the Federal Rates Situation: Your Questions, Answered

By Robert Frick | May 31, 2022 | 

It’s been 2 years since the Federal Reserve (also known as the Fed) suddenly dropped its benchmark interest rate to zero. The period that followed saw a massive rise in home buying, refinancing and debt repayment.

However, that rate is finally rising. This will present both challenges and opportunities for your finances.

The Fed is increasing rates for 2 important reasons:

• High inflation is hurting consumers and the economy. Raising rates is the Fed’s main tool to correct that.
• The economy has healed enough from the pandemic recession that rates can start returning to historical averages.

When rates are held low for too long, the economy becomes distorted, and eventually injured. At the time of writing, the Fed is expecting to raise rates by 0.25% at 7 different times throughout this year—though that’s also subject to change.

Assuming the rates will increase 7 times means that rates on loans such as credit cards will probably increase 1.75%. But it also means rates on savings accounts will eventually rise.

Here’s a look at how increasing rates will affect your finances.

Vehicles for Saving

Increases in the Fed’s rates mean you’ll be paid higher dividends on savings accounts and certificates (CDs, as they’re known at banks). It’s important to note that rates are not likely to rise quickly—not nearly as quickly as the rates you pay on loans.

That’s because financial institutions have accumulated too much money in savings accounts due to stimulus payments and other reasons. So, they’ll be waiting for some of those savings to be drawn before they’ll be obliged to pay higher rates to retain deposits—in other words, to keep your business.

Since you can expect to see rates increase more slowly in savings and CD accounts, you’ll probably want to wait until that happens to lock in higher CD rates.

Credit Cards

The Fed rate hikes mean your credit card’s annual percentage rate (APR)—which is variable, meaning able to change—will likely rise roughly along with the federal funds rate.

Let’s assume that the federal funds rate rises 2% by early 2023. It’s possible your credit card’s APR will rise by that much as well. For example, if your current APR is 15% on $10,000 in credit card debt, and it rises to 17% to keep pace with the Fed’s rate, your annual interest payment will increase from $1,500 to $1,700—a $200 increase.

You can minimize the amount you pay on credit cards several ways. First, look for a card that offers a 0% introductory APR and transfer your existing balance to it. Also, you could put yourself in an even better position by choosing a card with a low ongoing APR. (Note that if you have a Navy Federal Credit Card already, you cannot transfer that balance to another Navy Federal card.)

Auto Loans

Auto loan rates will probably rise overall. But the rate you’re personally charged, and how much that’ll change, depends on your credit score and other factors.

Many Americans may have seen their credit scores increase due to lower total debt over the last 2 years. If you’ve been thinking of refinancing an auto loan, now could be a good time to look into it because:

• rates may be lower now than they’ll be in the future
• an improved credit score could help you land a lower rate

As we all know, prices on both new and used cars have increased dramatically in the last year. This is due to fewer new cars being built, a consequence of a microchip shortage for cars that looks like it’ll last through this year. You may want to consider timing a new car purchase for later, and a refinance for sooner.

Student Loans

The suspension of student loan payments has been extended through August 2022. While this applies only to federal student loans, not private, that represents more than 90% of student loan debt.

And, since federal student loan rates are fixed, your existing federal student loan rates won’t rise. But if you have variable-rate private student loans, rates on those will probably increase with the federal funds rate. (If your rate goes up, you may want to look into refinancing your private student loans. )

Remember—our loan specialists can help with any questions you may have! Contact one at our student loan center, powered by LendKey, by phone at 1-877-304-9302, Monday through Friday from 8 am to 8 pm ET, or by email at navyfederal@lendkey.com.

Mortgages

There’s a common misconception that mortgage rates rise and fall with the federal funds rate. Actually, the most common mortgage—the 30-year, fixed-rate mortgage—is roughly tied to the 10-year Treasury yield. That yield reflects how investors feel about the economy—and the federal funds rate is just a minor component of that.

If you’re looking to purchase a home soon, your best chance of success will be to have a cash offer ready. However, the average American isn’t able to save the value of a home in cash, which leads us to the next best chance of success: Be prepared to put money down so that you can provide a cushion if the appraisal of the home is low. And while you’re working with a mortgage lender, make sure you lock in your interest rate—rates are expected to continue rising.

If you’re working with a builder, try to lock in a price early on. Although building a home often means waiting months to move in, especially as supply chain issues are a regular occurrence, many homes are appreciating for more than the purchase price after completion. That means instant equity!

Millions of Americans have refinanced their mortgages in the last 2 years, especially when rates fell below 3%. But now that the economy is strengthening, it’s unlikely that rates will fall that low again any time soon—if ever. (Still, it’s worth checking to see if it would still make sense to refinance.)

Use a mortgage calculator to see how much you could save and what your breakeven time period would be. (“Breakeven” refers to how many months of lower mortgage payments it’s going to take to cover your closing costs. For example, if you plan to stay in your house for more than 5 years, you’ll want your breakeven to be less than that length of time.)

Hearing about the Fed planning to raise rates can certainly cause anxiety. But rest assured, while some of your loans and offers will look more like they might have before the pandemic, other aspects of your financial health will balance them out (like your savings and CD rates.)

Author Bio: Robert Frick is a corporate economist for Navy Federal Credit Union. You can follow him on Twitter @RobertFrickNFCU.