federal interest rateA lot of buzz has sprung up over the weekend around the Federal Reserve’s March 15, 2020 decision to cut the federal interest rate down to 0% to 0.25% in an effort to stabilize the U.S. economy’s slow-down due to the COVID-19 coronavirus pandemic. This drop is already dramatic compared to the recent March 3, 2020 reduction to 1.75%, but this federal interest rate response is the most drastic course of action taken since the 2008 recession. With all of the stock and bond jargon flying around, it can be hard to tell how fed rate rises and falls impact you. Keep reading to see what all of this means for your wallet, and how rate changes affect your credit cards.

What is the federal interest rate?

At its core, the federal interest rate, also known as the federal funds rate or the Overnight Bank Funding Rate, is the interest rate set by the Federal Reserve that banks and financial institutions charge each other to lend money overnight. They do this because each bank is required to always have a set percentage of their customers’ money on hand, and banks want to stay as close as possible to that reserve limit possible since banks don’t earn interest on that set-aside money.

The fed rate is important because it affects the economy’s money flow — like the nation’s fund supply and demand, inflation and interest rates — by setting the prime rate, the U.S.’ baseline rate that sets the interest you pay on:

  • Credit cards: purchase and balance transfer APR
  • Other credit lines including home equity
  • Adjustable-rate mortgages and other long-term lending
  • Loans: personal, auto, student (even private loans), business and more.

Besides your interest costs, changing the federal interest rate also affects the interest you earn on:

  • Checking and savings accounts
  • Certificates of deposits (CDs)
  • Other stock-based funds like your retirement

Why does the interest rate change?

The Federal Reserve changes the federal funds rate in order regulate the economy’s money flow/speed by affecting how much people, businesses and institutions save or borrow. Influencing the federal interest rate is the Fed’s biggest tool, but they keep these rates low in other ways like lowering the federal discount rate (how much it costs banks to borrow from the Federal Reserve) and purchasing bonds. For instance, the Federal Reserve’s March 15 announcement included its plan to buy at least $700 billion in government and mortgage-backed bonds.

All in all, the Fed may raise the interest rate in order to slow down borrowing, which cuts down inflation and earns you more money thanks to raises on your interest-based accounts (e.g., savings accounts, CDs and your retirement). The federal funds rate might be lowered to encourage borrowing and free up money to fuel the economy.

How does the Fed rate change affect you?

In the short-term, you may not be affected by the interest rate change for a while — if at all. It could take over a year for the federal funds rate cut to influence spending enough to affect the entire economy. If you already have a credit card or you’re in a fixed-rate loan or mortgage, you probably won’t see much benefit, but if you’re looking for a new home or credit card, you may have more options since interest rates are lower. You can learn how to best prepare your finances for any interest changes below.

Credit cards

Believe it or not, the federal funds rate is one of the factors affecting your credit card interest. It won’t save you much from your ongoing variable APR, especially if you already have good credit, your interest rate may only drop less than 2%. The APR decrease could possibly save you a difference of only $3 or less per month, based on the average U.S. account’s $1,760 credit card debt. This isn’t very helpful if you’re already carrying a balance. However, this means you may be able to get a lower ongoing interest rate if you’re getting a new credit card. Now would be a great time to pay off ongoing credit card balance, especially with a great balance transfer card with a long 0% intro APR to keep interest away even longer.

Savings accounts

As aforementioned, there is a buffer period before federal interest rate changes affects every pillar of the economy, and banks in particular can be slow to adapt their interest rates for savings and checking accounts. With the recent fed rate cut, this may be good if you already have an account because the interest you earn might not drop as quickly. So moving your savings into a new account or CD for the sole purpose of gaining interest may not be advisable.

On the other hand, a federal funds rate increase would mean that your accounts would gain more interest, so opening a new account to build an emergency fund or investing in your retirement or CD would be a good idea after interest rates increase.

Loans and mortgages

Decreased interest rates mean that those in variable-rate loans/adjustable-rate mortgages or looking to take one out may find better deals — or can pay off their loan faster with methods like balance transfers. Especially for fixed-rate loans and mortgages, you can take advantage of the federal interest rate cut and lock in a seriously great deal for long-term money lending. If you’re currently in a fixed-rate loan or mortgage, your interest rate won’t change unless you refinance. Since the federal funds rate dropped more than 2.25% from last year’s 2.50% to the March 15 o to 0.25% rate, refinancing your loan may be a worthwhile option depending on your associated fees.

Although your savings and investment accounts won’t benefit from the federal interest rate cut, you may be in a position to get a great deal on a new credit card or loan — or even save money on your current ones. You can compare our best 0% intro APR credit cards to find your best deal, or follow our personal finance blog to explore your options.