Americans are set to take a significant hit to their wallets after the Federal Reserve hiked interest rates by 0.75 percentage point on Wednesday, the biggest rate hike in 28 years.
Although the Fed is inclined to hike interest rates by 0.5 percentage points, which currently stand at 0.77 percent, the central bank is acting more aggressively to stem record-high inflation, which hit 8.6 percent in May, the highest since 41 years.
The Fed’s primary tool for fighting inflation is setting the rate on short-term loans for commercial banks, which then pass that rate on to consumers and businesses.
Last year’s record-low mortgage rates of under 3 percent are already gone, credit card rates and the cost of a car loan are also expected to rise, and savers may get slightly better returns depending on the bank, while returns on long-term retirement funds are likely to suffer.
Interest rates were raised 0.75 percent on Wednesday, the highest since 1994
Federal interest rates were cut to near zero in April 2020 to help the country through the coronavirus pandemic
Fed Chair Jerome Powell expects rates to rise another 0.75 percent next month as the central bank tries to fight rising inflation
On Wednesday, Fed policymakers collectively signaled that they expect to raise interest rates up to seven times this year, raising interest rates to between 1.75 percent and 2 percent by year-end.
Officials expect four more hikes in 2023, which would keep their policy rate near 3 percent.
Chairman Jerome Powell hopes that by gradually making borrowing more expensive, the Fed will be able to dampen demand for homes, cars and other goods and services, thereby curbing inflation.
But the risks are high. With inflation likely to remain high, due in part to Russia’s invasion of Ukraine, the Fed may have to drive borrowing costs even higher than it now expects. This could potentially plunge the US economy into recession.
“The impact of a single quarter-point rate hike is irrelevant to the household budget,” said Greg McBride, chief financial analyst at Bankrate.com. “But there is a cumulative effect that can be significant on both the household budget and the overall economy.”
Mortgage rates have doubled since 2021 and are expected to rise
Mortgages have already skyrocketed over the past year, as interest rates jumped from 2.65 percent for 2021 for 30-year fixed-rate mortgages to 6.25 percent last week, with the Fed’s hike pushing them down to 7 percent.
That means the average person trying to buy a $400,000 home with a $10,000 down payment would be left with a $2,913 mortgage payment after the rate hike, a significant jump from the $2,730 before the raise.
And while mortgage rates are rising, home demand is collapsing as real estate agents Redfin and Compass announced layoffs on Tuesday.
“Mortgage rates have been rising faster than at any time in history,” Redfin CEO Glenn Kelman said in a statement. “We could be looking at years instead of months with fewer home sales, and Redfin still plans to thrive.
“If a drop from $97 a share to $8 doesn’t get a company through the heck, I don’t know what will.”
Mortgage rates were stable
David Wood, who recently sold his $2.6 million home in Southern California, said he got 93 groups to visit the home in one weekend alone, with seven people willing to pay more than the asking price to count.
As he prepared to move to New Jersey, Wood noticed that there was little stock of housing and that he had to compete among several others for a $2.5 million estate in Little Silver, with his cash offer winning him helped beat the rest.
“There’s so much competition for housing that it’s difficult to find a home no matter who you are,” Wood said. “Houses I looked at would be off the market in three days.”
Real estate consultant Jonathan Miller, who compiled Douglas Elliman’s latest report on the median rent in Manhattan, which hit an all-time high of $4,000 a month in May, said the increase will have a direct impact on rents.
Miller said that as mortgage loans remain tight, there are fewer people who can qualify for homes in the suburbs of big cities, who have been forced to join the pool of homeseekers in New York City, Miami and Austin.
According to Redfin, the median rent in Austin was $2,245 as of January 2022, up 35 percent from last year, and Realtor.com noted that Miami’s median rent rose to nearly $3,000 in March, a Increase of 58 percent corresponds to last two years.
Jacob Channel, senior economist at Lending Tree, said the market has become so wild that it’s becoming increasingly difficult to predict mortgage rates.
“Given that they’ve already gone up so dramatically, it’s difficult to say how much higher mortgage rates will go by the end of the year,” Channel told CNBC
Impact on credit card debt and loan repayments
The increase will also play an important role in people’s ability to pay off debt, as the average credit card interest rate has risen to over 19 percent.
According to Experian Consumer Credit, the average American has about $6,000 in credit card debt. With the new rates, consumers would have to pay $349 a month to pay off the debt in 24 months, a slight increase from $346 before the rate hike.
Ted Rossman, senior industry analyst at Credit Cards.com, said because interest rates differ from loan car to loan car, Americans will see a wide range of differences in their debt.
“If your credit card’s APR rises to 18.61% by the end of 2022, that’ll cost you an additional $832 in interest expense over the life of the loan, assuming you’ve made minimum payments on the average balance of $5,525,” Rossman told CNBC .
The interest required to pay off car loans will see a much higher increase.
Since the average new car costs about $25,000, a new rate hike to 11.05 percent means consumers have paid an additional $6,120.84 in interest over the five years that the car has been paid off. It is a notable rise from the previous price of $5,673.95.
Student loan payments will also get a boost, as before the rate hike, an average loan of $28,400 grew to $37,494 in 10 years.
With the new interest rate of 6.55 percent, a graduate would have to pay a total of $38,784 over 10 years.
Even personal loan repayments will experience a similar increase. According to Nerd Wallet, a personal loan has an average interest rate of 20.06 percent. So, to pay off a $10,000 loan in five years, consumers would have to spend $15,916.37.
After the increase, a borrower would need $16,167.95 to repay that loan in five years.
Savings are expected to earn more interest, but the cost of living is going up together
But while lending rates continue to rise, the rate hike will have a small impact on savings account returns, which are expected to rise to 0.08 percent from an average of 0.07 percent.
This means that a $5,000 savings account with a monthly deposit of $200 will return $7,404.88 over a year.
How much the new savings will actually help Americans is debatable as the average cost of living continues to rise due to inflation.
Economists thought March was the peak of consumer price hikes, but the rate rose again in May, up 8.6 percent over the past 12 months, and wholesale prices also rose, almost entirely due to the rising cost of energy, especially gasoline.
US gasoline prices surpassed $5.00 a gallon for the first time last week and are setting new daily records.
Meanwhile, food prices have risen significantly over the past year due to inflation, with the price of bacon rising 15.3 percent, eggs 32.2 percent and milk nearly 16 percent.
Airline fares rose 37.8 percent last year, and new car prices rose 12.6 percent.
Fed Chair Jerome Powell had indicated that policymakers were poised to raise interest rates by another half-point next month to dampen sweltering inflation without plunging the economy into recession and 1970s-style stagflation years to avoid.
President Joe Biden has fully supported the Fed’s fight against its steepest rate hike in more than 40 years as he watches inflation erode its popularity and divert attention from other milestones, including a rapid recovery in the world’s largest economy and record growth at workplaces.
Inflation is at a more than 40-year high – which has caused voters to anger the economy, despite a mixed recovery from the pandemic-induced downturn in 2020, robust recruitment and a healthy unemployment rate 3.6 percent
Prices for everything from petrol to travel to hotels have risen by double digits since January 2021