On Wednesday, March 15, 2017, the Federal Reserve announced their third interest rate hike since the end of the recession. They raised their benchmark interest rate 0.25 basis points to a new range of 0.75 to 1.00 percent. While interest rates still remain at historic lows, the Fed also indicated that, if the economy continues to show growth and approaches a 2 percent inflation rate, consumers and investors should expect two more interest rates in the coming year. The Fed projected a 2.1 growth rate in 2017 and 2018, with it falling to an estimated 1.9 rate in 2019.
As always, rising interest rates will mean there will be both winners and losers. In general, borrowers are hurt when interest rates go up, while savers are helped. After the Fed announcement, most major banks announced they were raising their prime lending rates from 3.75 to 4.00 percent. Below are some of the changes which consumers and investors can expect to see.
Consumers should expect mortgage rates to rise slightly, which will increase the size of house payments on home purchases. In the past, rate increases have often caused an initial increase in home sales as buyers rush to lock in a mortgage. Eventually, however, if interest rates continue to rise, it has the potential of causing home prices to fall.
Current home owners with adjustable rate mortgages could also see an increase in their payments.
Car payments will also go up, but so slightly it will not make a difference to most buyers. According to data from Bankrate, a .25 point difference on a $25,000 auto loan will only make a difference of approximately $3 a month.
Most credit cards today have adjustable rates. If you carry a balance on your card, expect your interest rate to go up. You may want to see if you can negotiate a better interest rate on your card until you are able to pay off or pay down the balance.
Private Student Loans
While most student loans have a fixed rate, private loans may have a variable rate. Since interest rates are expected to continue to climb over the coming year, you may want to consider refinancing your loan into a fixed rate before the rates climb even higher.
Savings Account Interest
Savers were hit hard over the past decade because of low interest rates. Rising rates will give an income boost to consumers with large savings accounts. Unfortunately, there will be a delay before interest on savings will go up. Banks are allowed to be slower about raising rates on savings accounts than on loans and credit cards. Of course, a 0.25 percent increase will not make a large difference now. However, if interest rates continue to rise, it could make a significant difference to people living on fixed incomes who are partially dependent on the interest from their savings.
The effect of rising interest rates on the stock market is more complicated. There is not a direct relationship between interest rates and the stock prices. However, if investors perceive that the economy will be slowed down by rising interest rates, it could cause stock prices to drop. On the other hand, if investors see rising interest rates as a sign of a strong economy, it can give the stock market a boost.
There are other connections between rising interest rates and the stock market. As interest rates rise, eventually consumers may have less disposable income, which means businesses which are dependent on consumer spending could see a slip in their business.
Businesses which borrow money to cover inventory purchases or to smooth out fluctuations in their income could see a decrease in profits when interest rates rise. This could hurt the stock prices of these companies.
On the other hand, rising interest rates could benefit the profitability of companies in the financial sector, such as banks and insurance companies.
Bottom Line: Effects of Rising Interest Rates
Rising interest rates have a complex effect on both consumers and businesses. In the past, the stock market has often seen a large drop when interest rates go up. However, that does not always happen. While borrowers may be hurt by rising interest rates, the effect of this could be off-set in a strong economy by rising wages. Savers will benefit from the effects of compound interest.
Consumers should continue to expect interest rates to rise as long as the economy continues to grow, with an inflation rate of 2 percent or higher and strong job creation. The consequences of these rising interest rates will be complicated.
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