Cash News
This is the economic U-turn we’ve been waiting for. The Federal Reserve announced a massive half-point cut in short-term interest rates on Wednesday.
It’s been a long time coming.
After inflation peaked at 9.1% in June 2022, the Fed worked to tame consumer prices with 11 interest rate hikes over the ensuing months. Then, rates remained unchanged beginning in August 2023.
With inflation at 2.5% in August — tantalizingly close to the 2% target — Fed officials felt the time was finally right to steer interest rates lower.
Read more: Fed predictions for 2024: What experts say about the possibility of more rate cuts
How monetary policy works
The Fed controls one interest rate: the federal funds rate, the short-term rate banks use to borrow from each other. The target range for the federal funds rate is now 4.75-5.00%.
Fed interest rate decisions filter through the financial world, impacting virtually every facet of borrowing costs and saving rates. Interest rate management is monetary medicine the Fed uses to:
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Slow the economy by raising interest rates in an effort to tame rising costs (high inflation) as measured by the Consumer Price Index.
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Help mount a recovery when we’re at the opposite end of an economic cycle by lowering interest rates as an injection of liquidity into the financial system.
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Allow past moves to take root while the Fed considers future actions by holding rates steady.
What the Fed says is ahead for interest rates
In a press conference on Sept. 18, Fed Chairman Jerome Powell said the Federal Open Market Committee was not on a preset course and would continue to make their decisions “meeting by meeting.”
He then referred to the FOMC’s “dot plot,” which shows each committee member’s estimate of where the fed funds rate will be in coming months.
“If the economy evolves as expected, the median participant projects that the appropriate level of the federal funds rate will be 4.4% at the end of this year and 3.4% at the end of 2025,” Powell said.
A 3.4% fed funds rate would be nearly 2% lower than the prevailing effective rate, which was 5.33% just before the rate cut announcement.
Here’s how the Fed’s new interest rate strategy could trickle down to your loans and accounts.
Read more: Fed lowers interest rates by half point in first cut since 2020
How lower interest rates affect checking and savings accounts
Your short-term liquidity depends on money in the bank. As interest rates rose, so did deposit account rates.
Soon, cash in the bank will start earning less. Savvy savers will need to hunt for the best returns as providers begin easing their interest rate payouts.
Checking accounts
Checking accounts that pay interest offer the most meager returns. But you need quick access to the money, and if you manage your cash flow, the bank won’t have most of that money in its hands for long.
Interest-earning checking accounts paid a national average of 0.07% monthly in August 2023. A year later, that rate had edged up to 0.08%. That’s likely the top of the tiny hill for checking account interest.
Let’s climb up the interest-paid-for-cash mountain.
Savings accounts
Short- to mid-term money is best parked in a savings account. It’s part of your easy-in, easy-out cash strategy. Last year, in August, the monthly average interest rate on a traditional savings account at a brick-and-mortar bank was 0.43%. Last month it was 0.46%.
High-yield savings accounts pay more — Yahoo Finance is seeing high-yield savings account APYs ranging from 4.25% 5.25%. You can see that shopping rates really pays off. (APY is the result of compounding your interest rate. Compounding periods can vary by bank.)
Money market accounts
A money market account often boosts your return from a common checking account, but you’ll likely need to deposit anywhere from $10,000 to $100,000 to earn the raise.
Last August, the national average monthly interest rate was 0.62%. One year later, it is 0.64%. Consider putting your second layer of cash in an above-average money market account. It’s the money you want close at hand, but not checking account close.
To do that, look for a high-yield money market account. As the Federal Reserve continues to lower interest rates, high-yield money market accounts will start paying less. Yahoo Finance is seeing high-yield interest rates from 4.45% to 5.25%.
What to do now: Shop rates at banks, both brick-and-mortar and online. Keep your near-term cash nimble and earning the best rate it can.
What Fed policy does for CDs
This new lower-interest-rate cycle will impact CDs too.
A 12-month CD was earning 1.76% monthly interest in August 2023. A year later, the same term CD was paying 1.88%. The best CDs are around 5.25% APY. But remember, these rates were effective before the Fed’s move to lower rates. Next month, we will likely begin seeing rates crawl down. Also, your minimum deposit and term will affect your rate.
What to do now: Use CDs to earn interest on your mid-term money. As rates fall, longer-term CDs may be your best option, while using other easy-access solutions for your shorter-term savings.
Mind Your Money
What the latest Federal Reserve move will mean for loans and mortgages
Now to the other side of the asset/liability ledger. This is where lower interest rates can work to your advantage.
Personal loans
Interest rates on personal loans have risen from 8.73% at the beginning of the Fed rate hikes in 2022 to 11.92% in May 2024, according to the latest data available. Now that the Fed has reversed course, we can expect to see these interest rates slowly drift lower.
Student loans
Most federal loans have fixed interest rates, so Fed policy doesn’t impact them. Private student loans may have a variable rate, and Fed rate hikes can be a factor.
To learn the interest rate on an existing loan, contact your lender or loan servicer.
Home mortgage loans
If you’ve been looking to buy a home in the past two years, you know this story: Home loan rates have soared. When the Fed rate hikes began, lenders were pricing 30-year fixed-rate mortgages around 4%, according to Freddie Mac.
They spiked to nearly 8% last fall, but in late spring home loan interest rates for 30-year fixed mortgages started dropping in anticipation of a rate cut and are now near 6%.
It took nearly 20 years for mortgage loan rates to fall from 7% in 2001 to an annual percentage rate under 3% in 2020. And homebuyers may not see lenders price home loan rates that low again anytime soon. The 50-year average for a 30-year fixed-rate mortgage is still well over 7%.
What to do now: As the cost of borrowing moves slowly lower, resist the urge to take on more debt or extend the term on existing loans. Monitor upcoming opportunities for mortgage refinancing.
Read more: How the Fed rate decision affects mortgage rates
How Fed interest rate moves impact credit cards
Credit card interest rates have moved from an average of just over 16% to well over 21% during the Federal Reserve’s rate-raising cycle. With a shift to lower rates, we can look forward to some lower fees on credit card balances.
However, the relief will come gradually.
What to do now: Lower interest charges can give you the opportunity to reduce credit card debt faster. Prioritize paying off the credit cards you can — especially those with the highest interest charges — and consider balance transfers to lower interest rates and zero-interest credit card offers as your credit score allows. With good credit, a personal loan for credit card debt consolidation may be another option to consider.