How could earning more interest be bad news?
- Many savings accounts offer higher rates.
- The reason rates are rising is that the Federal Reserve has raised interest rates.
- It is a sign of economic difficulties that could have a cost.
If you have a savings account, chances are you were recently notified that your interest rate was going up. But don’t get too excited if this happens to you.
It’s actually bad news that rates are rising so much right now – and you probably won’t find yourself in a better financial position than before, even if you earn higher returns on your saved funds.
There’s a reason your bank raised your rates
To understand why the increase in the yield of your savings account is bad news, it is useful to know Why this happens with so many financial institutions.
Banks are raising their rates for a simple reason. The Federal Reserve raised interest rates. The central bank sets the benchmark rate and controls the cost for banks to borrow money overnight from other financial institutions.
The Federal Reserve had kept rates very low to stimulate the economy during the COVID-19 pandemic. But it has raised rates several times recently due to soaring inflation. And further rate hikes are expected.
The Federal Reserve does not directly control interest rates on savings accounts. But when he raises rates, it has ripple effects throughout the economy.
Financial institutions generally have to start charging higher rates on loans since the banks themselves are paying more to borrow. They also need to compete to attract more deposits so they can make more loans at the currently higher rates. They do this by offering higher returns to investors who put money into savings.
This is why you may receive a notice from your bank that your rate has increased.
Why is this bad news for consumers?
This is bad news for many people for several reasons.
First, your debt is likely to become more expensive due to the Federal Reserve rate hike. The higher rates will affect any variable rate loans, such as auto loans or credit cards, and any loans you take out in the near future.
Unless you have a lot of savings and owe little or nothing, the extra cost you’ll have to pay creditors will likely dwarf any extra returns you’ll get from the savings.
The fact that the Federal Reserve is aggressively raising interest rates should also be of concern to everyone, even those without debt. This is happening because the Fed is worried about persistent inflation.
Inflation refers to the rising cost of goods and services. It’s unavoidable, but the Federal Reserve’s target inflation rate is around 2% and we’re well above it right now. Inflation hit a 40-year high and the consumer price index rose 9.1% in June, meaning the price of goods and services is almost 10% higher than it was was last year.
While your savings account may pay you a little extra, it won’t help your finances much if you’re paying almost 10% more for the things you buy.
Unfortunately, there is nothing you can do about the realities of high inflation. And you want to keep saving enough to cover any emergencies or unexpected costs that arise. But you should be aware that an increase in the rate of your savings account could occur due to economic difficulties on the horizon, and you should start taking steps to prepare for this eventuality.
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