Are you carrying a big credit card balance? Or maybe you’re considering taking out a mortgage or other loan.
If so, it’s time to start worrying, at least a little bit.
With the U.S. economy gaining momentum, economists generally expect the Federal Reserve to start raising interest rates next year. Although a major boost seems unlikely, any upturn will increase borrowing costs for consumers.
“From a borrower’s perspective, the writing is on the wall,” said Greg McBride, chief financial analyst at North Palm Beach, Florida-based interest rate tracker Bankrate.com.
The last time the Fed raised the federal funds rate was in 2006. Since then, the rate plummeted to a target range of zero to 0.25 percent, where it’s been wedged for the last six years. Similarly, the prime rate, used as a benchmark for a variety of consumer loans, has been stuck at 3.25 percent.
After the Fed’s two-day December meeting earlier this month, Chairwoman Janet Yellen clarified the central bank’s monetary policy plans, saying it is likely to hold rates near zero at least through the first quarter. She also laid out the economic parameters that would need to be met for liftoff to begin later in the year and said that rates probably would be raised gradually thereafter. They may not return to more normal levels until 2017, she added.
For now, the outlook is likely for the Fed to engineer a couple of quarter-point rate hikes in the second half of 2015, McBride said.
Those increases would most directly affect rates charged on variable-rate credit cards — almost all credit cards these days have variable, not fixed, rates — home equity loans, adjustable-rate mortgages, and student and auto loans.
Fixed-rate mortgages — which were averaging 3.99 percent on a 30-year loan last week, according to Freddie Mac’s nationwide survey — should head higher even earlier, McBride said. “You’ll likely see them begin to move up as the timetable for Fed action comes into focus,” he said.
With the economy mending well and in less need of stimulus, the Fed will have more leeway to raise rates in an attempt to keep inflation in check.
In addition, the Fed needs to “reload the gun” for the next recession, McBride said. “There will be pressure on (Fed policymakers) to put a few rate increases under their belt just so they have some ammunition for the next time the economy rolls over.”
For borrowers, the message is clear.
“Whether interest rates go up a little or a lot remains to be seen, but they will go up,” McBride said. “There’s no better time than the present to use the tailwind of low interest rates to pay down your debt.”
On the flip side, if borrowing rates go up, that’s generally good news for savers.
Still, any improvement in deposit rates likely will be muted.
“I think savers will end up trailing the rate of inflation for the foreseeable future,” McBride said. “With inflation right now running at 1.7 percent annually, and the top-yielding online savings accounts paying 1 percent, the Fed would have to raise rates a few times, and you would still be trailing inflation.”
The other factor that likely will restrain deposit rates is that for most banks, loan demand has not picked up enough for them to aggressively court deposits.
Many banks “won’t feel compelled to raise deposit rates because they already have more deposits than they are able to lend out,” McBride said.