Federal Reserve raises the federal funds rate by 25 basis points: What could this Fed rate hike mean for you?

A Credit Karma news explainer


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The Federal Open Market Committee has enacted a 0.25% interest rate increase at its Jan. 31-Feb. 1 meeting. The Federal Reserve’s new target range for the federal funds rate is 4.5% to 4.75%. This marks the eighth straight Fed rate hike since the FOMC’s first meeting in 2022.

Interest rate increases can be painful for many Americans, but the Fed has chosen to raise rates to combat inflation.

Read on for a detailed breakdown of the most recent Fed rate hike and how it could affect your finances.

Reasons for the recent Fed rate hike

According to notes from all its meetings in 2022, the Fed wants to “achieve maximum employment and inflation at the rate of 2% over the longer run.”

According to the Bureau of Labor Statistics, the year-over-year inflation rate from December 2021 to December 2022 was 6.5%.

Federal law requires financial institutions to keep a certain percentage of their customers’ money on hand, or “in reserve.” Sometimes a bank needs to borrow money from another financial institution to maintain the federally required reserve level. The federal funds rate (often shortened to fed funds rate) is an interest rate charged on overnight interbank lending to allow banks to have the correct reserve levels.

When banks lend to one another, they are taking part in what’s called the federal funds market. Hence, the name federal funds rate.

As rates increase, it becomes more costly for people to borrow money, and they spend less. Product demand then goes down, which, typically, then leads to a reduction in inflation.

History of Fed rate hikes

The current effective fed funds rate of 4.33% is low in comparison to historical levels.

dj_fedrate_historyImage: dj_fedrate_history

For example, when the housing bubble peaked in 2006 to 2007, the Fed had raised interest rates to more than 5% in an effort to combat the overheated housing market. And the notoriously high interest rates of the late 1970s and early 1980s make the current Fed funds rate look like nothing. During the week of July 8, 1981, the effective Fed funds rate reached 19.93%. The corresponding 30-year fixed rate mortgage rate average was 16.79% — reaching a peak of 18.63% the week of Oct. 9, 1981.

After the fed funds rate peaked in the early 1980s, rates have mainly been on a decline until now. The 2022 rate hikes are surprising because they came in quick succession, and the increments of increase have been larger than usual. Additionally, Americans got used to years of near-zero interest rates in the wake of the housing crash and Great Recession.

How does the Fed rate hike affect you? And how can you prepare for rising interest rates?

Most Federal Reserve rate increases end up affecting consumers. Your credit card interest rate might rise a bit. Borrowers with a fixed-rate mortgage loan won’t see its interest rate rise, but folks applying for a new mortgage might expect to see higher rates. Similarly, auto loan rates may go up as well.

Although loan rates often rise when the Fed rate increases, the good news is that interest rates on bank accounts tend to rise as well. That includes most basic savings account interest rates. We break it all down below.

Fed rate hike impact on mortgage rates

Mortgage rates tend to mirror changes in the fed funds rate, but aren’t perfectly correlated.

For instance, after announcing a rate hike targeting a range of 4.25% to 4.5% in the December 2022 Fed meeting, the weekly effective fed funds rate rose from 3.83% to a new rate of 4.33% in December 2022. But the average weekly 30-year fixed rate mortgage rate dropped.  

Most folks with mortgages have a fixed rate, so the fed funds rate change isn’t likely affect them. People with adjustable-rate mortgages and new borrowers are more likely to be affected. If you fall into either one of these categories, it’s worth considering whether you believe rates will continue to rise. If you do, it might be worth considering refinancing if you have an adjustable-rate mortgage. If you’re thinking about buying and you think rates will continue to rise, you may want to strike before rates rise more. If, on the other hand, you think rates will go down, it may be worth waiting.

Fed rate hike impact on credit card rates

A Fed interest rate hike also affects interest rates on credit cards. According to the Federal Reserve, the average credit card interest rate was 19.07% as of November 2022. That’s up from an average credit card rate of 16.27% from the third quarter of 2022. The increase in credit card rates from 16.27% in the third quarter of 2022 to 19.07% (280 basis points) in November is the largest within 28 years. This indicates that a Fed rate hike might have an impact on your credit card interest rates.

While Fed rate hikes in 2022 likely induced a rise in credit card interest rates, credit card rates have actually been higher-than-average for some years now. This is mainly due to Fed rate hikes between 2016 and 2019. By contrast, the average credit card interest rate was less than 13% from May 2011 through May 2017, a period when the average fed funds rate was lower.

Most credit cards have variable interest rates that might be affected by the rise in the fed funds rate. If you have a credit card, this could be a good time to try to pay down your credit card debt as aggressively as possible before interest rates increase more. Additionally, you may consider taking advantage of your card’s grace period (if you have one) to avoid interest payments.

Fed rate hike impact on auto loan rates

When it comes to auto loans, a Fed rate hike could affect auto loan interest rates, but the relationship between the two is complex. Typically, a Fed rate hike can cause a rise in auto loan rates, but auto loan rates can also be high without any Fed interest rate hikes going on.

For example, the average auto loan rate for a 60-month loan rose from 5.5% in the third quarter of 2022 to 6.55% in the fourth quarter, reflecting the Fed rate hike of September 2022. However, during a period when the effective Fed funds rate was low — 0.06% in May 2021 — the average 60-month term auto loan rate was 5.05%.

Fed rate hike impact on savings interest rates

Fortunately, there can also be positive effects from Fed rate hikes. Generally, a Fed interest rate hike means an increase in the average savings account interest rate.

Looking at Federal Reserve data confirms this. From May 2021 to 2022, the average savings account interest rate was 0.06%. The Fed rate hikes in May through December 2022 increased the average national savings account interest rate to 0.30%. That may not sound like much, but 0.30% is five times higher than 0.06%, so you could be earning more interest on the money you have in a savings account. Now could be a good time to open a high-yield savings account and move your money from accounts that earn less interest. With an uncertain economic future, it may not be a bad time to sock more away in your savings.

When is the next Federal Open Market Committee meeting?

To stay up to date on the latest rates, keep the Fed meeting schedule in mind. The next Fed meeting on interest rates will be held Mar. 21-22, 2023. Whether the Fed will raise rates again during that meeting remains to be seen. A full schedule of the FOMC’s meetings can be found below, both for 2022 and 2023.

2022 Fed meeting schedule

  • Jan. 25–26, 2022: Fed maintains target range of 0%-0.25%
  • March 15–16, 2022: Fed rate hike to target range of 0.25%-0.5%
  • May 3–4, 2022: Fed rate hike to target range of 0.75%-1%
  • June 14–15, 2022: Fed rate hike to target range of 1.5%-1.75%
  • July 26–27, 2022: Fed rate hike to target range of 2.25%-2.5%
  • Sept. 20–21, 2022: Fed rate hike to target range of 3%-3.25%
  • Nov. 1–2, 2022: Fed rate hike to target range of 3.75%-4%
  • Dec. 13–14, 2022: Fed rate hike to target range of 4.25%-4.5%

2023 Fed meeting schedule

  • Jan. 31–Feb. 1, 2023: Fed rate hike to target range of 4.5%-4.75%
  • March 21–22, 2023
  • May 2–3, 2023
  • June 13–14, 2023
  • July 25–26, 2023
  • Sept. 19–20, 2023
  • Oct. 31–Nov. 1, 2023
  • Dec. 12–13, 2023

Estimate the effects of inflation

Use our inflation calculator to see how much money from the past is worth today — or the other way around!