Federal Reserve Increases Interest Rates 25 BPS: How it Affects You

·7 min read
Ken Cedeno/UPI/Shutterstock
Ken Cedeno/UPI/Shutterstock

In one of the closest-watched Federal Reserve Board’s Federal Open Market Committee (FOMC) meetings, Federal Reserve officials unanimously stated on Wednesday, March 22 that it would raise interest rates by a quarter point.

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With this ninth rate increase since March 2022, the Fed was tasked with the tricky balancing act between taming inflation and stabilizing a very turbulent banking sector, which has been rattling markets and made American consumers jittery in the past two weeks.

“The Fed will likely consider pausing now with some economic data finally slowing and the banking system showing signs of weakness. The Fed will need to focus attention on limiting economic fallout as inflation hopefully continues to cool without further hikes,” said Ben Vaske, investment research analyst at Orion Advisor Solutions.

Did The Bank Failures Impact The Decision?

Speaking at the press conference, Fed Chair Jerome Powell said that some officials had considered a pause in the days leading to the meeting. When asked about the systemic risk exception that was made following the banks’ collapses, Powell replied it was “about the risk of contagion to other banks and financial markets more broadly.”

The speed of the bank runs is very different from what’ve seen in the past and could show that there is more need for regulatory supervision, he added.

The Fed noted in a statement that the U.S. banking system was “sound and resilient,” noting, however, that recent developments “are likely to result in tighter credit conditions for households and businesses and to weigh on economic activity, hiring, and inflation.”

“The extent of these effects is uncertain. The Committee remains highly attentive to inflation risks,” it added.

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How High Are Rates Now?

The FOMC said in the March 22 statement that it decided to raise the target range for the federal funds rate to 4-3/4 to 5%.

“The Committee will closely monitor incoming information and assess the implications for monetary policy. The Committee anticipates that some additional policy firming may be appropriate in order to attain a stance of monetary policy that is sufficiently restrictive to return inflation to 2% over time,” according to the statement.

The Fed’s new phrasing hints at a slowdown or a pause in rate hikes, as it previously used “ongoing increases.”

The decision was in-line with what the market was looking for, any deviation to the upside would have likely led to a pullback, while no hike or 25bps were sort of the benign outcomes, said Sylvia Jablonski, CEO and CIO of Defiance ETFs.

What Does it Mean for Americans?

“If we need to raise rates higher we will. For now, we see the likelihood of credit tightening and we’re going to be watching what that is,” Powell said during the press conference.

For Americans, that means continued higher interest rates and higher borrowing costs — so credit cards, loans and mortgages will be even more expensive.

TransUnion’s Raneri told GOBankingRates that from a consumer credit perspective, the impact of further rate hikes will likely continue to be felt by borrowers, particularly in industries such as mortgages and credit cards.

“In this high interest rate environment, consumers are advised to continue paying down as much higher interest debt as they can, continue paying bills on time, and work to keep their personal financial and credit profiles as strong as they can be,” Raneri said.

Ted Rossman, senior industry analyst at Creditcards.com, believes that the most significant aspect of today’s Fed decision is its indication that this series of rate hikes is nearing its end.

“That’s probably something that will be celebrated by investors as well as consumers who are facing sharply higher interest rates on credit cards, mortgages, car loans and other financial products,” said Rossman, adding that of course, rates are expected to remain elevated for a while, so there should still be a sense of urgency to pay down high-cost debt such as credit card debt.

As the average rate is 20.35%, this series of rate hikes has already added nearly $2,000 to the total interest bill (over 17 years) for someone making minimum payments toward $5,805 in credit card debt, Rossman added.

“We do know a few things for sure: Higher rates are having a major dampening effect on the housing market, and anyone with credit card debt is facing a considerably greater burden than a year ago. On the bright side, savings rates are the most attractive they’ve been in years, with the highest-yielding federally-insured savings account just over 5%,” he said.

All in all, several experts believe that bank runs have done the Fed’s job for it, as the Fed acknowledged off the bat how credit conditions have tightened, which could reduce inflation, said David R Russell, Vice President of Market Intelligence at TradeStation.

“They also toned back the commitment to aggressive rate hikes. This is a net positive for sentiment because it puts the Fed back in wait-and-see mode instead of an all-out tightening campaign. Nobody would have expected this a few weeks ago, but the collapse of Silicon Valley Bank and Credit Suisse may have saved the stock market from retesting the lows,” Russell added.

How Will the Increase Impact the Economy?

When asked about the possibility of a soft landing for the U.S. economy following the banking turmoil, Powell said it was “too early to say.” He added, “But there’s a pathway to that that still exists and we are certainly trying to find it.”

In terms of the overall impact on the economy, the higher level of restrictive rates coupled with a loss of confidence in the banking system, coupled with a risk off mentality will likely spell continuous caution in the short-term trading and investing environment, she said, adding that the tech sector will likely find relief in the idea that rate hikes, after today are meant to pause.

Another notable change in the Fed’s statements is the lack of mention of the Russia-Ukraine war and its implications for the economy.

With this new hike, the Fed attempted to strike a balance between remaining vigilant on the inflation fight while acknowledging the real-world impact that recent turmoil will have on future economic activity, said Jeffrey Rosenkranz, portfolio manager at Shelton Capital Management.

According to Rosenkranz, the stress on the banking system since the seizure of Silicon Valley Bank and Signature Bank, and the forced merger of Credit Suisse into UBS, will lead to tighter financial conditions, including banks being forced to raise interest rates to retain deposits and conserve capital in advance of stricter regulation in the future.

“This will reduce the amount of loans and credit available, especially to small and mid-sized businesses, which have been the primary engine of employment and economic growth over the last few years,” he said.  “Therefore, whatever we collectively believed the future path of interest rate increases was going to be, the trajectory is lower and shallower and it is comforting to know the Fed agrees,” he said, adding that as  there is no April FOMC meeting, Fed officials will evaluate all of the incoming information over the next six weeks to see if the banking system is normalizing or still fragile, and proceed accordingly.

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Other Key Projections

The Fed also released its projections, noting that unemployment decreased a little, while expected inflation went up.

“The members raised their estimate of interest rates for the end of 2024 and also raised their inflation targets for both core and headline. The lowering of their unemployment forecast for 2023 indicates they continue to be concerned with the strength of the labor market, keeping inflation higher for longer,” said Mace McCain, President, Managing Director and Chief Investment Officer at Frost Investment Advisors.

Projected rate increases would continue through 2023 finishing at a 5.1% interest rate, before decreasing to 4.3% in 2024.

The Fed also revised downward its GDP projections down to 0.4% for 2023, compared to its December projection of 0.5%. Unemployment levels for 2023 were also slightly revised downward to 4.5%, compared to its December projection of 4.6%, according to FOMC officials’ projections. And in terms of inflation, it projects 3.6%, higher than the 3.5% previously anticipated.

According to Stephen Barrows, Ph.D., COO of Acton Institute, the Fed cannot yet claim victory over inflation.

“So until it achieves its inflation targets, borrowers will continue to feel the squeeze. Nevertheless, the long run damage inflation inflicts on family budgets is much worse. The Fed must stay the course,” Barrows said.

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This article originally appeared on GOBankingRates.com: Federal Reserve Increases Interest Rates 25 BPS: How it Affects You