How Fed Rate Changes Impact Borrowing and Savings Rates

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In August 2019, the Federal Reserve made a monetary policy U-turn that ended nearly four years of sustained rate increases, commencing a campaign of rate reductions. The Fed has delivered five interest rate cuts since then — including two rate reductions in March 2020 in a bid to address the global economic slowdown driven by the coronavirus (COVID-19) outbreak.

Today, the federal funds target rate range is back at the zero bound, at 0.00% to 0.25%. Since August 2019, the Fed has reversed all of the aggregate rate increases it delivered in the 2015 to 2018 rate hike campaign, when the federal funds target rate range topped out at 2.25% to 2.50%.

Using the Federal Reserve rate data, MagnifyMoney has analyzed how the interest rates consumers pay for loans and earn on deposits have changed as the Fed has adjusted its policy stance.

Key findings

  • Credit card borrowers are still paying more in interest. In 2019, credit card borrowers collectively paid $121 billion in interest, up $42 billion from the $79 billion they paid in 2015, the year that the Federal Reserve began raising interest rates. Despite the recent Fed rate reductions, credit card APRs remain rather high, with the average card APR at 14.87%.
  • Savings accounts at the big national bank chains and the more nimble online banks have reacted very differently to Fed policy changes. Average savings account rates at the big banks have barely budged for a decade. Since the most recent round of rate cuts began, average savings accounts at the big banks are down 0.01 percentage points.
  • Online banks have been much more sensitive to Fed rate changes than the big national chains. The average online savings account rate rose steadily to 2.23% APY through mid-2019 as the Fed hiked, then dropped gradually to 1.71% APY as of March 2020 as the Fed reduced rates.
  • Student loan and auto loan rates are less sensitive to Fed rate policy. This is partially due to the fact that they are long-term forms of lending that are less dependent on the short-term federal funds rate. Federal student loan rates are set based on the 10-year U.S. Treasury note rate each May.
  • Historically, certificates of deposit (CDs) have reacted quickly to Fed rate changes, but the cycle of rate increases and rate cuts since 2015 have been an exception. When the Fed hiked rates by a total of 2.25 percentage points in the 2015 to 2018 period, average 12-month CD yields only went up 0.44 percentage points. Meanwhile, the rate reductions since August 2019 have pulled average 12-month CD yields down by a scant 0.16 percentage points.

By way of comparison, MagnifyMoney also looked at the impact on consumer rates when the Fed cut the fed funds target rate from August 2007 to February 2008.

Generally, unsecured loans like credit cards and personal loans are more rate-change sensitive than secured loans like autos and home mortgage rates, no matter the direction of the rate change. Let’s take a closer look at how recent Fed rate changes have impacted different financial products:

Credit cards

Most credit cards carry a variable annual percentage rate (APR) that’s directly tied to the prime rate (a market interest rate, which banks charge their most creditworthy customers) — for example, the prime rate plus an additional 9.99 percentage points. As a result, card rates tend to move almost immediately in line with Fed rate changes.

The average APR on credit card accounts with revolving balances increased 2.2 percentage points to 16.88% in 2019, from 14.67% in 2010. Since the Fed began cutting rates in 2019, average credit card APRs have fallen by 0.26 percentage points.

With Fed funds practically at zero, we expect a continued decline in credit card APRs. And consumers can still find attractive introductory rate offers. For example, some introductory 0% balance transfer offers continue to have long terms even as the Fed hiked rates, with offers still available for nearly 1 ½ years at 0%.

Credit card issuers can also increase other fees, like late payment fees or balance transfer fees, to keep long 0% intro APR offers viable.

The Fed typically tends to hike interest rates gradually over time. However, people in credit card debt will barely notice the rate increase in their monthly statement. When rates are increased by 0.25 percentage points, the monthly minimum due on a credit card will increase $2 for every $10,000 of debt.

Similarly, monthly minimums may decline with rate reductions, although credit cards typically have monthly minimum payments of at least $20. Making minimum payments could mean years of paying off credit card debt and accumulating interest. One of the best ways to lock in lower rates is by leveraging long 0% intro APR balance transfer offers or by consolidating into fixed rate personal loans.

Savings accounts

Savings accounts from the big national chains have remained in the doldrums, both before the Fed’s 2015 to 2019 rate hike campaign, and also in the wake of the rate cuts seen since August 2019.

The average rate offered by the big banks has held stubbornly below 0.20% over the last decade, falling as low as 0.06% in the 2013 to 2017 period. Big banks, with their huge deposit bases and extensive branch networks, have little incentive to offer higher rates. Most savers simply don’t shop around to find higher rates.

Meanwhile, online banks steadily increased the rates they offered on savings accounts as the Fed hiked rates, with the average online savings account rate topping out at 2.23% APY in the second quarter of 2019. The average online savings account rate had declined to 1.73% as of February 2020, and will most likely fall further if the Fed keeps dropping rates.

Savers who want the best rates should take a hard look at what they are earning now and what they could be earning in the best online savings accounts listed on our site.

Certificates of deposit (CDs)

Since the first rate cuts in August 2019, average APYs on 12-month CDs have fallen by 0.16 percentage points, to 0.48% APY. But those rates don’t fully reflect what some smaller banks are passing through, as the banks with the largest deposits have been slow to raise rates. Nevertheless, CD rates are still well above their 2017 levels.

One reasonable strategy would be to invest in short-term, 12-month and 24-month CDs. If competition on the short end continues, you can reap the benefits after a shorter term expires and renew your CDs.

Student loans

Federal student loan rates are set annually by Congress, based on the level of the benchmark 10-year U.S.Treasury note, plus a defined add-on to the rate. Today, rates for new undergraduate Direct loans stand at 4.53%, down from 5.05% the previous year.

Since student loan rates are determined by the 10-year U.S. Treasury rate, rather than a short-term rate, they are less directly related to changes in the federal funds rate than some shorter-term forms of borrowing like credit cards. Instead, future market views of inflation and economic growth play a role.

For private refinancing options, rates depend on secondary markets that tend to follow longer-term rates, rather than the current federal funds rate, but in general, a rising rate environment could mean less attractive refinancing options, and vice versa.

Personal loans

Personal loans make up a small fraction (1%) of all outstanding consumer debt, but the majority of borrowers use this financial product to refinance or consolidate debt. Interest rates tend to be driven by many factors, including the lender’s view of the lifetime value of a customer, funding availability and credit appetite.

Most personal loans offer fixed interest rates. Since the Fed rate cut in August 2019, the average personal loan interest rate among 24-month loans has fallen by 0.42 percentage points. However, that average includes a wide range of rates that affect loan APRs, which are more representative of the total cost for borrowing. Further, 24-month loan terms are not as common today as previously. For personal loans, APRs range from 4.99% to more than 30% APR.

Auto loans

Prime consumers who shop around for an auto loan can still find very low rates, especially when manufacturers are offering special financing deals to move certain car models.

Overall, rates across the credit spectrum have gone up slightly despite the rates cuts by the Fed. This could be in part due to credit tightening as delinquency rates increased in late 2019, particularly for seriously delinquent (90-plus days) loans.

Mortgages

Before the Fed announced its emergency rate cuts in March 2020, mortgage rates were already in a freefall because of fears of a global economic downturn due to the spreading coronavirus. The Fed’s rate cut will continue to keep downward pressure on mortgage rates in the near future.

The mortgage market tends to follow trends in longer-term bond markets, like the 10-year U.S Treasury note, since mortgages are a longer-term form of borrowing. That shields them from the impact of Fed rate hikes, and it’s not unusual for mortgage rates to decline during some periods when the Fed is raising rates.

To ensure you get your best mortgage offer, shop around with three to five mortgage lenders and compare not only rates, but also lender fees and closing times.

What can consumers do

If you are in debt, now is the time to lock in the lowest interest rate possible. There are still plenty of options at this point in the credit cycle for people to lock in lower interest rates. If you are a saver, ignore your traditional bank and look online. Take advantage of online savings accounts and CDs to earn 20 times the rate of typical big bank rates.

More importantly, stay informed about personal finance and learn how you can improve your situation. Keeping a close eye on the moves made by the Federal Reserve should be part of this process — since Fed policy is ultimately the guide for most, if not all of the rates in your financial life.

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