How the Federal Reserve Affects Interest Rates on Savings Accounts and CDs

The Federal Reserve plays a central role in the US economy, setting an important benchmark interest rate that can speed up or cool down economic activity. At a high level, these changes can have an impact on employment and the price of goods and services. But they can also have an impact on consumer interest rates attached to savings accounts, money market accounts and CD.

The Federal Open Market Committee meets eight times a year (about once every six weeks) to assess changes in interest rates. The latest meeting was earlier this week and Fed analysts who were forecasting a 0.75%, or 75 basis point, increase were on board.

The Fed has raised interest rates five times this year in an effort to stem inflation from a 40-year high of 9.1% in June. “Think of interest rates as an accelerator or a brake,” said Greg McBride, chief financial analyst at Bankrate. “The demand is too high compared to the supply. This has led to much higher prices. Now [the Fed] must apply the brakes. With these repeated rate hikes, they’re not just pressing the brakes, they’re pressing really hard.”

How the Federal Reserve Influences Deposit Rates

The Fed sets the federal funds rate, which determines how much banks charge to lend and borrow money. In turn, these rates influence the annual percentage returns of deposit accounts – these changes don’t happen overnight. When interest rates rise, APYs usually follow, but over weeks or months.

Although banks generally set their deposit account APYs based on the direction of the federal funds rate, the timing and specific rates may vary. “Some big banks are swimming in deposits and they don’t have to pay to bring in more,” McBride says. As such, there can be quite significant differences in account interest rates from bank to bank. “It’s important for consumers to shop around, McBride says. “Best performing CDs are at levels we haven’t seen since 2009. Small regional banks, community banks and credit unions can take advantage of this opportunity to pay higher rates on savings accounts and CDs.

According The bank rate, CNET’s sister site, the national average APY for a savings account is 0.13% and 0.76% for a one-year CD. Rates for one CD 1 year cap around 3.2%. These are much higher than a year ago, but still insufficient to keep pace with inflation of 8.3%. Still, now is a good time to assess your savings rate and look for opportunities.

How high have the rates gone?

That was the $64,000 question (or $69,312, if you take into account the current inflation rate of 8.3%). In August, New York Federal Reserve Chairman John Williams in a live interview with the Wall Street Journal, talked about the strength of the economy and cited an imbalance between supply and demand that was leading to high inflation. “As we come to the next meeting, we will weigh all the factors and make a decision on the right policy setting. In hindsight, it was necessary to raise interest rates to slow demand,” he said. said Williams. in the Wall Street Journal interview.

As most economists expected, according to a recent Reuters poll, the Fed raised interest rates by 75 basis points (0.75%). That took the federal funds rate range to at least 3.0% — the highest rate since 2008, just before the financial meltdown.

This latest increase will probably not be the last this year. McBride thinks the Fed will make additional hikes through the rest of 2022 as it tries to get inflation under control. “Inflation is public enemy No. 1. It’s easy to raise rates when interest rates are low,” he says. “[It] becomes much more difficult if unemployment increases. That’s why you see them charging as much as they can now.”

Tips for finding the right savings account or CD when rates rise

Keep in mind that big brand banks with larger marketing budgets aren’t the only ones offering competitive rates on savings accounts and CDs. Community or regional banks, credit unions and online banks often offer higher rates on deposit accounts to attract new customers.

“[Savers] have to think carefully about savings accounts or CDs [to open]wrote Baruch Silvermann, CEO of The Smart Investor, in an email to CNET. “With such uncertainty, it may not be a good idea to tie your money longer term. You probably want the flexibility to be able to move your money around quite freely when a better opportunity presents itself.”

“[If] you’re looking at CDs, focus on shorter durations, so you can reinvest or move your money when they mature. Alternatively, you can choose a longer-term CD if there is no withdrawal penalty,” Silvermann adds.

The best high yield savings offer APY between 2% and 3%, low fees and no minimum balance requirement and the best CD prices are approximately 3.0%. When evaluating a savings account, note any fees associated with opening or maintaining an account. You should also compare APYs and how easily you can access your money before making your decision. CD rates vary widely depending on institution and term.

CDs offer a fixed, secure rate of growth, as long as you can leave the funds in the account until the maturity date. Terms can range from three months to five years or more. Before opening an account, confirm that your deposit is insured by the Federal Deposit Insurance Corporation or the National Credit Union Administration up to $250,000.

At the end of the line

It is highly likely that more interest rate hikes will occur as the Fed attempts to contain inflation. Although the inflation rate has come down slightly from its 40-year all-time high of 9.1% in June, the rate is still four times higher than the Fed’s 2% target. But rising rates provide an opportunity to capitalize on higher APYs to help offset inflation.

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