The U.S. central bank’s Federal Open Market again left interest rates alone, meaning most cardholders are safe from APR increases in the immediate future
With the economy still struggling, the Federal Reserve on Tuesday again left interest rates at historically low levels, guarding most credit cardholders against abrupt increases in their annual percentage rates.
In conjunction with the sweeping Credit CARD Act of 2009, the latest Fed decision will protect responsible credit cardholders from suddenly steeper borrowing costs. That’s because unless cardholders commit a serious borrowing sin, the law requires 45 days advanced warning from lenders of any annual percentage rate (APR) hikes. While there’s an exception for APR changes stemming from Fed policy adjustments, for the time being, central bank rate increases are unlikely.
“Interest rate hikes are nowhere on the Fed’s horizon,” says Joseph P. Lupton, global economist with J.P. MorganChase, noting that the FOMC is more concerned with helping the economy recover. Rate increases are typically used to fight inflation as the economy heats up.
|PRIME RATE, FED FUNDS RATE|
STILL AT ALL-TIME LOWS
The prime rate and the Federal Reserve’s fed funds rate — both of which are closely tied to credit card interest rates — have been steady since Dec. 18, 2008. Prior to that, however, both rates saw massive drops as the nation dealt with the economic downturn.
The chart above shows just how far the rates have fallen since July 2007 — just before the recession began. (NOTE: The prime rate is always 3 percentage points higher than the federal funds rate.)
Recession over, unemployment remains
The economy instead appears to be at a low simmer. “Information received since the Federal Open Market Committee met in August indicates that the pace of recovery in output and employment has slowed in recent months,” the Fed said in its statement. “Household spending is increasing gradually, but remains constrained by high unemployment, modest income growth, lower housing wealth, and tight credit.”
Recent data shows that while consumer prices rose in August, the increase was driven by gains in volatile food and energy costs, which the Fed tends to discount.
The National Bureau of Economic Research (NBER), a private research group known for determining the timing of when U.S. recessions begin and end, reported that the U.S. recession that began in December 2007 concluded in June 2009. Also, the international Organization for Economic Cooperation and Development (OECD), said it doesn’t expect a double-dip recession — in which the economy falls back into a recession shortly after recovering from one.
Still, both groups acknowledge that challenges remain. The NBER noted that the economy hasn’t gained momentum since the recession ended. And the OECD said that unemployment will remain high for some time.Against such an uncertain backdrop, Lupton said the Fed has shifted its focus away from rate hikes. He adds that the central bank will provide additional support for the economy “sometime before year end.” That support could include purchasing mortgage-based securities and Treasuries, in an effort to keep money moving in the U.S. economy.
Existing credit card APRs unchanged
With the Fed unlikely to raise its lending rate anytime soon, credit cardholders who revolve balances can mostly breathe easy. That’s because plastic typically has variable APRs, which respond to changes in the fed funds rate. Once the Fed eventually hikes the fed funds rate, credit card, auto and other borrowing costs will rise. Until that time, though, only borrowing mistakes by the cardholder, such as paying a bill more than 60 days late, will produce sudden change in a card’s APR.
Once the Fed takes action to fight inflation, millions of cardholders will feel the impact, since the vast majority of existing cards — as well as 99 percent of new card offers, according to research firm Synovate — have variable APRs tied to the prime rate. The prime rate rises or falls in lock step with the fed funds rate, and, in turn, any adjustment to the prime rate changes the variable APRs that are indexed to it.
Interest rate hikes are nowhere on the Fed’s horizon.
|— Joseph P. Lupton|
Global economist, J.P MorganChase
The APRs on new credit cards have already increased: CreditCards.com data shows that the average APR on a new card offer has risen from 12.97 percent at the start of 2010 to 14.15 percent as of this week. Lupton says that while Fed policy has “heavily impacted” government borrowing costs, as well as interest rates on corporate and household debt, that hasn’t proven to be the case for credit cards.
When will the Fed act?
Lupton adds that spending relative to earnings on durable goods remains at post-World War II lows. “Consequently, demand for consumer credit is still depressed and will likely be so until a more solid economic recovery gets under way sometime” in the second half of 2011, he says.
So when will economic recovery finally force the Fed’s hand? “With the outlook still uncertain and economic slack projected to remain elevated for at least another year, the Fed will keep its current unprecedented low policy rate in place until early 2012,” Lupton says.
See related:Credit card reform law arrives, A comprehensive guide to the Credit CARD Act of 2009, Interest rates remain unchanged for second-straight week,Variable interest rate cards replacing fixed rates