In a necessary response to record levels of inflation, the Federal Open Market Committee of the Federal Reserve approved a quarter-percentage-point hike in its benchmark federal funds rate.
Federal Reserve officials have signaled an aggressive path of interest rate hikes ahead, with rate hikes expected at each of the next six Federal Reserve meetings to be held this year.
The federal funds rate is the rate banks charge each other for short-term cash loans or bank reserves. The federal funds rate, however, affects many other important interest rates in our economy, such as US Treasury rates, prime rate, mortgage rates, and rates on consumer savings and checking accounts.
While our national debt recently exceeded $30 trillion, about $8 trillion is borrowed from the Social Security Trust Fund, leaving only $22.3 trillion held by investors in the form of US Treasury bonds, notes and bonds. As interest rates rise, so do US Treasury rates and the costs of maintaining our ever-increasing national debt.
In 2021, with historically low interest rates, the federal government spent $378 billion to cover interest payments on the national debt. But for every quarter-point increase in US Treasury rates, the cost of financing our national debt increases by about $56 billion a year.
Assuming the Federal Reserve achieves its target of seven interest rate hikes this year, with a total increase of about 1.75%, this would correspond to a cost increase of about $390 billion, which would total over $768 billion. That’s more than we spent on Medicare last year. Maybe it’s time to tighten our belts with the federal budget?
As individuals, we need to be aware of the impact these interest rate hikes could have on our budgets as well. Many of us have debts that are associated with adjustable or variable rates.
The most obvious example is probably credit cards, where interest rates are tied to the prime rate. Other examples could include student loans, home equity lines of credit, personal or business lines of credit and adjustable rate mortgages.
For those with large balances on one of these variable rate loans or lines of credit, you may wish to consider refinancing your loan or line of credit with a fixed rate alternative before rates rise. .
Unfortunately, we live in uncertain times, but fixed interest rates give us a degree of certainty and help relieve stress while trying to stick to a monthly budget. For homeowners with significant credit card debt, you may want to consider the option of refinancing your home at a fixed rate to pay off some of that costly debt.
Of course, not all interest rate hikes are catastrophic. For those of us with some money in a savings or money market account, the good news is that we should see higher rates being paid into our savings accounts in the months ahead.
Although I haven’t seen an increase yet, I’m looking forward to the credit union increasing the rate they pay on my savings account. And while that’s still not enough to keep up with inflation, it’ll be better than the 0.1% I’m earning now.