What Is a Fed Rate Hike?

Yesterday, the Federal Reserve made an important announcement that has left many with an important question: What is a Fed rate hike? The short answer is that it is an increase of of the interest paid by one bank to another. However, there are other factors to consider regarding the coming interest rate hikes, such as what it means for consumers. Let’s take a look at the finer points of the Fed rate hike news.

A photo of the outside of the Federal Reserve Building.
Source: MDart10 via shutterstock.com

What Is a Fed Rate Hike?

This type of rate hike occurs when the U.S. central bank raises the interest rate that banks charge each other. More specifically, this refers to the rate at which banks lend money to each other, set by the Federal Reserve, sometimes referred to as the federal funds rate.

Yesterday, the Fed raised this rate by one-quarter of a percentage point. This is only the first rate hike that the U.S. expects this year. According to Federal Reserve projections, it is the first of seven increases scheduled before the end of 2022.

These rate hikes are voted on by the Federal Open Market Committee (FOMC), a group in charge of implementing monetary policy for the central banking system. Among their responsibilities is setting a target for the federal funds rate. The committee’s voting members include representatives from the Fed’s Board of Governors. It also consists of the presidents of five Federal Reserve banks based in major cities across the U.S.

What It Means

Consumers wondering what is a Fed rate hike are likely still considering how this news affects them. The answer is simple. Because the U.S. is a centralized system, interest rate hikes are systemic. The rising cost to borrow funds begins at the federal level with institutions like the U.S. central bank. This alone may not mean much for typical American borrowers. From there, however, it flows downward, leading to increases in interest rates for personal finance services. This includes student loans and mortgages as well as credit card payments.

In short, the cost to borrow money for anyone is about to rise. This policy is intended to curb the rising inflation that has overtaken the U.S. economy since 2021. Bankrate financial analyst Greg McBride states that “one single quarter-point rate hike from near zero levels will have a minimal impact on household finances.” However, he says yesterday’s announcement is “just the beginning.”

Until the Fed has implemented a few more rate hikes, it will be difficult to assess their cumulative effect on the economy.

On the date of publication, Samuel O’Brient did not have (either directly or indirectly) any positions in the securities mentioned in this article. The opinions expressed in this article are those of the writer, subject to the InvestorPlace.com Publishing Guidelines.


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