Expert explains what higher interest rates mean

The Fed raised rates by three-quarters of a point Wednesday, the largest increase since 1994. The hope is to get inflation down steadily without tipping the economy into a recession.

Springfield financial adviser Dan Pietroburgo explains what the interest rate increase means and how you can save money.

Why are interest rates going up?

This is the simplest answer of them all, even if there isn't one single underlying cause of why inflation is happening. Because prices are 8% higher on average than they were a year ago — higher than what the Fed would like to see — action is needed to stem the tide.

"The Federal Reserve really has two jobs — to keep unemployment at low levels and keep inflation in check," said Pietroburgo, a financial adviser with Benjamin F. Edwards & Co. "For the last decade, that hasn't really been an issue. In many cases, they've been trying to stimulate inflation because we hadn't had much of any at all."

While factors such as supply chain issues and Russia's invasion of Ukraine affect how much people pay for a variety of different items, Pietroburgo said that at its core, the reality is that inflation comes down to some of the simplest truths of the American economy.

"Inflation in a nutshell is (that) there is more demand than there is supply," Pietroburgo said. "There's more people with money trying to buy goods and there's not enough goods. That leads to higher costs.

"By raising interest rates, what they're trying to do is affect consumer behavior and hopefully rein in some of the spending that consumers have been aggressively doing over the past few years."

What items are most affected

by interest rate hikes?

Pietroburgo said big ticket items and things that require borrowing or credit are the most affected by the kinds of significant increases in interest rates the Fed is trying to pull off. For instance, housing, cars and appliances are among the purchases that will be significantly more expensive with the rise in rates.

"When the Federal Reserve raises rates, it makes it more expensive for people to borrow money and make those types of purchases," Pietroburgo said.

Could the Fed's moves

result in a recession?

Pietroburgo said the Fed is trying to walk a tightrope in order to keep inflation under control. Acting too aggressively could drop the economy into recession, which could mean that in achieving one of its missions — getting inflation under control and keeping prices down — it may fail at the other mission of keeping the overall economy healthy.

"If they raise interest rates so much that people stop going out and borrowing money altogether, that could slow our economy down to a point where we go into a recession," Pietroburgo said. "That could lead to higher unemployment. Everyone would feel that to some extent.

"Nobody knows if we're going to get there and it's down the road. Certainly, it's not something that people are going to be feeling right now. What people feel now is the inflation (and) that's obvious. Everybody's impacted by inflation."

What can people do to

stretch their dollars?

Pietroburgo said most conversations with his clients revolve around assessing the current economic landscape and working around inflation. With interest rates skyrocketing, that includes discussions about how one should put money in the right spots.

For instance, caution is recommended for those looking to buy a new home, new car or new TV in the next few months. How interest rate hikes continue to progress may determine whether it is too expensive for them to make that purchase.

"Interest rates are significantly higher than they were six months ago and nobody's quite sure of the direction that interest rates are going to go in the next six months," Pietroburgo said. "Could we be at the peak? Could they start to come down? That's a tough situation."

For those who have money in accounts that aren't accruing interest, Pietroburgo said it's time to make that money useful by finding another account to put it in. Make sure it is getting a return on it instead of having it collect proverbial dust.

"If there's one positive of all of this, it's that you can now make a little bit of money on your cash," Pietroburgo said. "It's something to explore whether it's a high interest rate savings account or even CDs or Treasury bills. There are places where you can get a little bit of interest that for many years wasn't the case."

Contact Zach Roth: (217) 899-4338; [email protected]; @ZacharyRoth13