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Money News

What Higher Interest Rates Mean For You

December 13, 2017

  • The Fed will increase a key interest rate by a quarter of a percentage point
  • The hike could make it slightly more expensive for you to borrow
  • This was Janet Yellen’s last announcement as head of the Fed
3 min read

Interest rates are going up once again.

On Wednesday, the Federal Reserve Board (the Fed), announced that it will increase a key rate to a range between 1.25% and 1.5%.

This key, short-term rate–which it charges banks to borrow and lend money to one another– is known as the federal funds rate. The federal funds rate forms the basis of other interest rates, such as for credit cards and mortgages. It has risen three times in 2017.

Why raise interest rates?

The rate hike is a signal from the Fed (the nation’s central bank) that its board members think the economy is on strong footing, and that the programs put in place to promote economic growth since the recession can be scaled back safely.

Increasing interest rates will apply some gentle brakes to an economy that some experts say could be in danger of overheating

The Fed has been slowly increasing the federal funds rate for the last two years. In June, it raised this rate to between 1.0 and 1.25%. The increases follow a seven-year period when the central bank left interest rates at or below 0%, to stimulate the economy. In 2015, Federal Reserve Chairwoman Janet Yellen made news when she announced the bank would increase the federal funds rate to a range between 0.25% and 0.5%.

The federal funds rate is sometimes referred to as the overnight rate, because banks conduct the lending and borrowing after daytime business hours.

What do increasing interest rates mean for you?

A higher federal funds rate is likely to make it more expensive for consumers to borrow money for mortgages, charge on credits cards, and take out automobile or student loans, among other things.

Higher interest rates aren’t always a bad thing, however: They can also lead to increased savings account rates, for example.

Why is the Fed doing this now?

Increasing interest rates will apply some gentle brakes to an economy that some experts say could be in danger of overheating.

The stock market has roared ahead for much of the year, with indexes such as the S&P 500 up 19% as of December 13, 2017. The U.S. is also close to full employment, with the unemployment rate at a near 44-year low of 4.1%.

Simultaneously, Republicans may be on the verge of passing a tax plan that will add an estimated $1.5 trillion to the national deficit over the next ten years, via sharp tax cuts to corporations and the wealthy. The cuts could further spur the economy in the short run, according to the Wall Street Journal.

What does the Federal Reserve do?

The Federal Reserve is the central bank of the U.S. It oversees 12 district banks, which together are responsible for the monetary policy of the U.S.

The Fed’s mission is to oversee the health of the nation’s financial system. It attempts to keep the economy strong and growing by enacting policies to maintain low inflation and healthy employment levels. It does this primarily by adjusting inflations rates, and lending money to the nation’s banks.

The Fed was responsible for making sure the financial system didn’t freeze up during the financial crisis that began in 2008. It flooded the banking system with cash, and decreased interest rates to below 0%. It also was responsible for a program called quantitative easing, where it bought up trillions of dollars worth of government bonds, which helped shore up the financial system.

Policymakers are expected to raise the rate “a few times a year” through 2019, putting it near a long-term rate of 3 percent that the Fed considers sustainable.

So long, Janet Yellen

The interest rate announcement, made by Yellen, will also be her last public address as head of the Fed. She will soon be replaced by Jerome Powell, who was appointed as the new central bank chairman by President Trump in October.

By Jeremy Quittner
Jeremy Quittner is the senior writer for Stash.

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