APRs on the rise as Fed steps up rate hikes
The cost of carrying a balance rises for the second time in three months
By Fred O. Williams | Published: March 15, 2017
Expert on consumer credit laws and regulations
Credit card users are about to see their APRs rise for the second time in three months, as the Federal Reserve boosted its key interest rate Wednesday to keep the economy from overheating.
"Job gains remained solid and the unemployment rate was little changed in recent months," the Federal Open Market Committee policy statement said.
The rate-setting committee voted to bump up the federal funds rate by a quarter-point to a range of 0.75 percent to 1.00 percent. The previous range was 0.5 percent to 0.75 percent, following a quarter-point hike in December 2016.
And there is more of the same on the way. The committee released projections showing they expect three rate increases this year, with more members supporting the hikes than the previous projections released in December.
"We expect ongoing strength in the economy will continue to warrant gradual increases in the federal funds rate," Fed Chair Janet Yellen said in a press conference.
The rising rates come while balances on credit cards, while they fell in January, are generally climbing – prompting financial counselors to warn consumers about getting overextended.
“As soon as it becomes difficult to afford the minimum payments, accounts run the risk of falling behind and credit scores can take a turn for the worse,” Bruce McClary, vice president of communications for the National Foundation for Credit Counseling, said in a statement.
How does the central bank's action affect credit card APRs?
The federal funds rate is what banks charge each other for overnight loans, but it's also a key benchmark for short-term rates in the economy. Banks keep their prime lending rate 3 percentage points higher than the federal funds rate. The prime, in turn, serves as the market index that variable rate credit cards use to set their APRs. So when the federal funds rate rises, most credit card APRs go up by the same amount. The hike takes effect quickly – either during the current billing cycle or the next one, for most card users.
How much will the extra cost of borrowing strain people's budgets?
A strong economy is the reason behind the rising rates, so many households are feeling flush. But for families with credit card debt, higher and higher APRs will be more difficult to carry. Each quarter-point increase in the federal funds rate means an extra $1 of interest per month for the average $5,300 credit card balance. (See Quarter-point interest calculator)
A 2016 TransUnion study found that 92 million consumers – about 68 percent – are exposed to rising rates through credit card APRs or other variable rate debt such as student loans and home equity loans. Of them, about 10 percent – about 9 million people – are already on the edge financially, making them vulnerable to rising rates.
Regulators are concerned that, after a long reprieve from rate hikes, consumers aren't even aware that their costs of carrying a balance are rising. In its biennial investigation of the credit card market, the Consumer Financial Protection Bureau said it will examine whether consumers know they will have to pay more for an existing balance on their variable rate cards, and whether issuers should do more to warn them.
For now, late payments on credit cards are still relatively low, with only about 7 percent of balances in a "seriously delinquent" state of 90 days or more overdue, according to the Federal Reserve Bank of New York's household credit report. But improvements in the delinquency rate appear to have bottomed out and late payments are starting to rise again. New credit card delinquencies in 2016's fourth quarter were up 4 percent from the third quarter and 35 percent higher than a year earlier, the report found.
With unemployment at a low rate at 4.7 percent and wages rising, Wednesday's rate hike was a sure thing "barring an asteroid strike on Washington," Ian Shepherdson, chief economist at Pantheon Macroeconomics, wrote in a research note. He expects another increase to follow at the committee's June meeting.
Economists say the economic signals are strong for the Fed to continue raising rates, with two or maybe three more hikes coming this year. The job market hasn't been this strong since November 2007 and retail sales are rising. Core inflation is running at 2.2 percent over the past 12 months, in line with the central bank's target. And the stock market is breaking records on businesses' expectations of federal tax cuts and regulatory roll-backs.
After years of leaving rates at near-zero levels to spur hiring, the Fed is now setting a path to get back to a normal federal funds rate of about 3 percent sometime after 2018. That is still eight quarter-point rate hikes away. How quickly it will push rates upward will depend partly on whether tax cuts and stimulus measures are enacted in Washington, economists say, as well as continued strength in the job market.
"Changes in policies, including fiscal policies, could potentially affect the economic outlook," Yellen said.
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