James Nelson: Prepare For The Coming Interest Rate Hikes

In a necessary response to record high levels of inflation, the Federal Reserve's Federal Open Market Committee approved a quarter percentage point increase to their benchmark Federal Funds Rate.

The Federal Reserve officials indicated an aggressive path of interest rate increases ahead, with rate hikes expected at each of the next six Federal Reserve meetings being held this year.

The Federal Funds Rate is the rate that banks charge each other for short term loans of cash or bank reserves. The Federal Funds Rate, however, affects many other important interest rates in our economy, such as the U.S. treasury rates, the prime rate, mortgage rates and rates on consumer savings and checking accounts.

While our national debt has recently topped $30 trillion, about $8 trillion of it is borrowed from the Social Security Trust Fund, leaving only $22.3 trillion held by investors in the form of U.S. Treasury bills, notes and bonds. As interest rates rise, so do the rates on U.S. Treasury securities and the costs of maintaining our ever-increasing national debt.

In 2021, with record low interest rates, the federal government spent $378 billion to cover interest payments on the national debt. But for every quarter point increase in U.S. Treasury rates, the cost to fund our national debt goes up by around $56 billion per year.

Assuming that the Federal Reserve hits its target of seven interest rate hikes this year, with a total increase of around 1.75%, that would correspond to an increased cost of roughly $390 billion, which would total over $768 billion. This is more than we spent on Medicare last year. Maybe it is time for a little belt tightening with federal budget?

As individuals, we need to be aware of how these interest rate hikes might impact our budgets as well. Many of us have debt that has adjustable or variable rates associated with it.

Probably the most obvious example is credit cards, where the interest rates are tied to the prime rate. Other examples might include student loans, home equity lines of credit, personal or business lines of credit and adjustable-rate home mortgages.

For those carrying large balances on any of these variable rate loans or credit lines, you may want to look into refinancing your loan or credit line with a fixed rate alternative before rates go any higher.

Unfortunately, we are living in uncertain times but fixed interest rates give us some degree of certainty and help relief some stress while trying to stick to a monthly budget. For homeowners who have large amounts of credit card debt, you may want to look into the possibility of doing fixed-rate cash-out refinance of your home to pay off some of that expensive debt.

Of course, interest rate hikes are not all doom and gloom. For those of us that have a little money in a savings or money market account, the good news is that we should be seeing higher rates paid on our savings accounts in the coming months.

While I haven't seen an increase yet, I'm anxiously anticipating the credit union increasing the rate they pay on my savings account. And even though it still isn't enough to keep up with inflation, it will be better than the 0.1% I'm earning now.