The annual percentage rate(APR), is the percent increase of your credit card interest compared to the interest rate on a comparable credit card that has not been extended. In other words, as an example, a new card with a rate of 18% would be your borrower’s best option and a better deal than the rate of 16% on the existing card.
WHAT DOES THE FEDERAL RESERVE DECISION MEAN AND HOW DOES IT AFFECT ME IF I HAVE CREDIT CARD DEBT?
Economic instability and unemployment in the wake of the pandemic led millions of Americans into credit card debt, but paying off balances would be much harder going forward. annual percentage rate(APR) As the federal funds rate rises, so do credit card interest rates. It may be an indirect connection, since the fed funds rate only directly affects loans between banks, but this in turn affects the banks’ costs, which in turn are passed on to consumers.
The prime rate that is the basis for all loan rates for bank customers is derived from the federal funds rate. Premiums are aggregated based on applicant creditworthiness and institutional factors. This produces effective interest rates, like credit card annual percentage rates. Once the Fed action takes effect, credit card APRs will adjust almost immediately, typically within one or two billing cycles.
Total US household debt reached $15.8 trillion in the fourth quarter of 2021, the New York Federal Reserve recently reported, up $333 billion from the previous quarter. Credit card balances alone reached $860 billion, an increase of $52 billion over the same time period. That’s the largest quarterly increase the Federal Reserve has seen in the 22 years it has been collecting data, the researchers say. According to the report, the increase in debt was generally driven by home and car purchases.
The recent acceleration in debt is likely due to the fastest inflation in decades, according to the Federal Reserve. Americans used pandemic-era government aid to pay off their debts, meaning they had credit available to use for new purchases. With the rate increasing by at least a quarter percentage points, the average APR on new cards could jump as high as 16.38% this spring, depending on how banks respond to higher base rates.
But if the Federal Reserve raises rates at least four times over the next year, as some analysts predict, the average APR on new cards could end 2022 at 17.13% or more. However, it is still uncertain.
HOW LONG WOULD IT TAKE TO PAY OFF MY DEBT WITH THE PROBABLE INCREASES IF YOU MADE THE MINIMUM PAYMENT EVERY MONTH?
If you pay your credit card bill in full every month, you don’t have to worry. But if you carry a balance on that card, carrying it month to month will cost you more once rates go up.
Suppose you have a debt of $3,500. The current average credit card interest rate is 16.13%, according to CreditCards.com. If you only make a minimum payment of $50, it would take 17 years and 8 months to pay off your balance, and you would pay a total of $7,093 in interest.
But with a higher interest rate, such as 16.38%, which could result in March, it would take 19 years and 2 months to pay off your balance, paying a total of $7,978 in interest.
Now, let’s assume that the worst case scenario occurs and the interest rate reaches 17.13%. In that case, it will take 42 years and 4 months to pay off your balance, and you will pay a total of $21,895 in interest.
WHY ARE CREDIT CARD RATES AFFECTED BY THE FEDERAL RESERVE DECISION?
Most credit cards are tied to the US prime rate, which is directly influenced by the Federal Reserve’s benchmark interest rate, the fed funds rate. When the fed funds rate changes, the prime rate generally changes by the same amount.
Lenders are free to set APRs on new cards as they wish, and are technically not required to change APRs when a card’s base rate changes. On the other hand, lenders are required to match changes in the prime rate on open credit card accounts that are contractually bound.
That’s what happened in the spring of 2020. After the Federal Reserve cut rates by a point and a half in March 2020 in response to the economic meltdown in the wake of the coronavirus pandemic, almost all lenders cut APRs as well of new cards except Capital One, according to CreditCards.com.
Since then, most of the new cards included in the weekly rate report have continued to advertise the same APRs they had in spring 2020. As a result, the card’s national average APR has barely budged for over a year, remaining at 16% since April 2020. But if the Federal Reserve raises its benchmark interest rate this year, as projected, most credit card offerings are likely to follow suit. Existing credit card holders will also see their rates go up, making their debt much more expensive to maintain.
