On July 26 (Wednesday), the U.S. Federal Reserve raised interest rates by 25 basis points. It’s the 11th time since last year that the Fed has raised rates and the highest rates have been since 2001. The move is part of the Fed’s efforts to combat historic levels of inflation that are largely due to measures implemented by various governments to address the COVID-19 pandemic.
While Inflation is showing signs of cooling — with the year-over-year rate dropping from four percent in May down to three percent in June — it remains stubbornly higher than the Fed’s target of two percent.
Federal Reserve chair Jerome Powell signaled last month that this rate hike, and potentially more by the end of the year, were in order to address inflationary pressures.
“Nearly all Committee participants expect that it will be appropriate to raise interest rates somewhat further by the end of the year,” he said at a press conference.
Few believed that the Fed would leave interest rates as they were, as the Fed attempts a delicate balancing act between reining in inflation while not negatively impacting economic growth.
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“On one side, there’s the risk of high inflation, like towering waves that could capsize the ship,” James Allen, a certified financial planner and founder of Billpin told CNET, adding that “on the other side, there’s the risk of slowing economic growth, like dangerous rocks lurking beneath the surface … if they steer too far in one direction, they could end up crashing into the other.”
Are more hikes coming?
It’s unclear whether or not the Fed will raise interest rates further by year’s end. While inflation has dropped considerably over recent months, experts expect August’s inflation numbers to play a large role in the Fed’s decision making process.
Even if inflation continues to trend downwards, experts warn of a possible mild recession and recommend people build up an emergency fund in a high-yield savings account and make efforts to pay down any debt.
“Economic growth has likely been too firm in recent months for Fed Chair Jerome Powell to signal that Wednesday’s increase in the Fed’s benchmark short-term rate will be the last of the current tightening cycle,” the Wall Street Journal (WSJ) reported. “The recent slowdown in inflation also makes it hard for central bank officials to firm up plans for any additional rate increase.”
The hike means increased borrowing costs for consumers and businesses as rates for credit cards, adjustable-rate mortgages, auto and other loans climb, however it also means that Americans with savings will start seeing a better return on their nest-eggs after years of paltry returns.
In a note to clients, Goldman Sachs said it believes this hike to be the last this year.
“By the November meeting, we expect the core inflation trend will have taken a decisive step down … and that this will convince [the Fed] that a second hike is unnecessary,” the bank wrote.
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US economy remains resilient
On July 27, it’s expected the government will report that the U.S. economy grew by a respectable 1.8 percent in the second quarter of 2023, a much better performance than what many forecasters were projecting.
In June, the economy added almost 210,000 jobs and average wages grew by 4.4 percent annually, while consumer spending, the economy’s main engine, remained robust despite higher borrowing costs.
In a research note, Barclay’s wrote that this economic environment may make the Fed “skeptical that inflation will remain on a downward trajectory toward its 2 percent target without another rate hike.”
At the consumer level, this most recent rate hike will have an impact on everything from auto loans to mortgages.
In June, the average interest rate on newly financed vehicles jumped to 7.2 percent, the highest it’s been in 16 years. Used vehicle rates saw a similar increase, surging to 11 percent from 8.3 percent, according to data from Edmunds.
Jessica Caldwell, Edmunds’ executive director of insights told USA Today, “The good news for new car buyers is that automakers have gradually offered more subsidized loan programs as inventory has improved and stabilized,” and that this “should take some of the sting out of rising interest rates for qualified consumers with good credit, with the caveat being a shorter loan term than desired in many cases. All other shoppers will need to tread cautiously.”
Since the Fed does not directly set mortgage rates, home loans may not shift significantly in the near term and factors such as housing demand and the economic outlook in different areas of the country may play a larger role in influencing mortgage rates.
Lisa Sturtevant, an economist with Bright MLS, told USA Today, “Each month when the Federal Reserve has raised rates most of the time the mortgage market has already baked in those rate increases because it’s been very clear what the Federal Reserve had intended to do.”
In the past, when the Fed raised interest rates in an attempt to cool the economy, home prices generally stayed steady, though the number of existing homes sold declined.
