In recent years, we have been experiencing low interest rates and some of us may have even tuned out any of the Federal Reserve’s news and announcements. But right now, it is important to pay attention. Even if you have already heard about the coming rise in federal interest rates, you may not understand all of the terms or how this could affect you. Raising the interest rate doesn’t just affect the economy as a whole, but also your personal financial situation. It’s a good idea to get educated about what a federal interest rate hike means to you so you can adjust accordingly and ensure a safe financial future.
The What
The Fed has been hinting since last year that the time of low interest rates could be coming to an end. This comes after years of keeping the federal funds rate, the target interest rate banks charge each other to borrow Fed funds overnight, near zero since the 2007-2009 recession in an effort to avoid an all-out depression. Generally, signs of an improving economy include a lowering unemployment and rising inflation. Unemployment numbers have been dropping and the Federal Reserve Chair Janet Yellen has said that rates will be increased by the end of this year. (If you need a quick explainer on how interest rates work, here’s a good guide.)
The Why
It may seem silly to you that federal interest rates would be increased, but this is actually a reflection of an improving economy. A higher rate makes money more costly to borrow. This starts at the federal funds level then hits the rest of the economy from banks all the way to the average consumer. The rates are being increased to tighten the credit market after years of near-zero borrowing by major American banks during and after the Great Recession.
The ‘What Now?’
So how does all this affect you? It turns out that a federal funds rate increase can affect many facets of everyday life from paying your credit card bills to refinancing your mortgage and paying back your car loan. If you’re a saver, things are about to get better but if you’re a borrower or investor, they may get a little bit harder.
Higher interest means your savings account can earn more, but you will have to pay your lender more for any loan you want to take out and probably for charges on your credit card (unless you pay the full balance each month). It also means you will likely receive a higher return on your bonds and that the American job market is improving.
If (and it’s really more a matter of “when” now) interest rates rise, your credit score becomes even more important to maximizing your borrowing power. Improving your credit score can actually help combat rising interest rates, since you can qualify for lower rates with a better score to counteract the interest increase. You can check your credit scores for free on Credit.com to see where you stand.
The important takeaway is that the average American is affected when the Federal Reserve adjusts interest rates and it’s a good idea to pay attention to when it’s happening and why. Consider how the 2015 hike will affect your personal finances. (You might want to go ahead and take out a mortgage before rates rise, or you may decide to choose a short term for a CD so that you can lock into a longer term when rates are higher.) The more you know, the better you can budget and protect your financial interests for years to come.
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