The Federal Reserve is shaking things up — which is both good and bad news for consumers.
The Fed made some of the biggest changes to its policy in years following an extended review. The central bank has revised its approach to inflation and the labor market in a move that could usher in an extended period of low interest rates.
But the new approach won’t mean that consumers will save money across the board. “The Federal Reserve’s new strategy could divide the landscape for the various financial products important to consumers,” said Lynn Reaser, chief economist at the Fermanian Business & Economic Institute at Point Loma Nazarene University.
What did the Fed change?
The Fed is now officially less concerned about high inflation. Moving forward, central bankers will target inflation that averages 2% over time. This means that following a stretch with low inflation, the Fed might allow inflation to run above 2% for a period of time.
Along these lines, the Fed will concern itself less with the strength of the labor market. “A tight labor market is no longer correlated to inflation,” said Dan Geller, a behavioral economist and founder of consulting firm Analyticom.
In the past, the Fed’s official view was that a strong labor market could cause inflation to jump — as a result, the central bank would move to raise rates even if higher levels of inflation had yet to materialize when the job market was especially strong.
The new policy will allow the Fed to keep rates low even if the job market rebounds and inflation picks up. As a result, some have suggested that it may be many, many years before the central bank hikes rates again.
Americans will save on credit-card interest because of the Fed’s new policy
The good news for any Americans with credit cards is that the annual percentage rate on your cards should go down — or remain low — for the foreseeable future.
“Card APRs are still high, but they’re actually the lowest they’ve been in years, largely thanks to the Fed,” said Matt Schulz, chief credit analyst at LendingTree. “Their latest announcement means that rates are likely to stay at low levels for some time.”
The same is true for other forms of shorter-term debt, including home equity lines of credit and some personal loans. On short-term loans like these, the bulk of the movement in interest rates is tied to changes in the federal funds rate, which is the interest rate commercial banks used to borrow or lend reserves to each other.
The federal funds rate is the benchmark for these forms of debt. Earlier this year the Fed cut the federal funds rate twice, prompting a drop in interest rates on many forms of consumer debt.
“The Fed isn’t the only factor that affects credit card interest rates, but in recent years, it has definitely been the biggest one,” Schulz said. “The truth is that for most of the last decade, credit card APRs haven’t moved all that much, except for when the Fed raised or lowered rates.”
In the case of credit cards, a lower rate doesn’t necessarily mean an affordable one though. The average credit card APR currently stands at 16.03%, well above the rates seen for other loan products like mortgages or auto loans. That is down from 17.68% a year ago, said CreditCards.com industry analyst Ted Rossman, but it only amounts to $8 a month in savings for someone making minimum payments toward the average credit card debt (which is $5,700 according to the Fed.)
“This is why credit card debtors shouldn’t expect the Fed to ride to their rescue,” Rossman said. “It’s really important to pay down credit card debt as soon as possible, since rates are so high.”
Your savings account may not generate as much income in the future
The interest earned via high-yield savings accounts and certificates of deposit is dependent on the Fed’s interest rate policy. As such, these savings vehicles won’t generate major amounts of interest income so long as the Fed maintains its low rate stance amid low inflation.
If inflation picks up though, banks could move the interest on these accounts higher though, Geller said.
Mortgage rates could actually rise even if the Fed keeps rates low
“Long-term interest rates will be much less affected by this policy change,” Reaser said. And that includes mortgage rates.
Mortgage rates don’t respond directly to moves on the Fed’s part because the Fed only controls short-term interest rates. Instead, the rates on mortgages ebb and flow in response to movements in the long-term bond market, particularly the yield on the 10-year Treasury note. Therefore, mortgage rates are more subject to the whims of bond investors.
“If investors fear that the Federal Reserve might be too late in responding to any buildup in inflation pressures, long-term rates could be higher,” Reaser said. This logic doesn’t just apply to 30- and 15-year mortgages though, but also to longer-term personal loans and student loans.
The Fed can take certain actions that would keep mortgage rates down though.
“The Fed being more accommodative might mean that they are purchasing more mortgage-backed securities and treasuries which could counter the inflationary effect on the longer rates for things like mortgages,” said Tendayi Kapfidze, chief economist at LendingTree.