The Federal Reserve’s strongest weapon in its fight against skyrocketing inflation is raising interest rates.
In March, the Fed raised its target federal funds rate by 0.25%, the first rate hike in more than three years. At its May meeting, the central bank hiked rates by 0.50%, and in June it got even more aggressive, raising rates by 0.75%, the largest increase since 1994. The Fed is warning of potentially more rate hikes to come as it tries to cool consumer demand and drive prices down from a 40-year high.
That has resulted in higher interest rates on credit cards, home and auto loans, home equity lines of credit and small business loans. For borrowers, that means those products are only getting more expensive. But the Fed’s rate hike campaign is not all bad news. There is a silver lining for savers.
“Rising interest rates represent a turn of fortunes for savers as interest earnings are finally on the rise, and eventually those higher interest rates will help reduce inflation,” Greg McBride, Bankrate’s chief financial analyst, told ABC News. “This is the opposite of what savers have endured the past three years when interest rates fell and then inflation took off.”
Early in the pandemic, when the Fed was cutting interest rates to stimulate the economy, the average rate for a typical savings account was around 0.06%, according to the FDIC. Now, with the Fed’s benchmark rate rising, banks are starting to follow suit, but don’t expect them to mirror those rate hikes exactly. What the Fed does with interest rates is only one factor banks consider when setting rates. They also take into account how much money customers have deposited and how much their competitors are offering.
Some banks, especially online banks, are starting to offer interest rates on savings accounts of 1% or more. But not all bank interest rates are created equal. McBride recommends doing some comparison shopping and considering switching banks to take advantage of the latest rate increase.
“You want to put your money where it will be welcomed with open arms and higher yields,” he said. “Online banks, smaller community banks, and credit unions offer higher yields than the large banks that already have a mountain of deposits.”
Fed Chair Jerome Powell predicts the central bank could raise rates another 1.75% over the remainder of the year to bring inflation down from its current 8.6% to the Fed’s target goal of 2%. Experts say if the Fed proves to be as aggressive as they’re expected to be, the top-yielding online savings accounts could top 3% by year-end.
In addition to high-yield savings accounts, McBride said if you’re willing to commit your money for a few years, then a certificate of deposit or I-bond, which are also seeing rates rise, could be better suited to your financial goals.
“Evaluate the time horizon for when the money is needed and then pursue the appropriate savings instrument,” said McBride. “Don’t chase the yield and end up locking yourself into something incompatible with your liquidity needs. If you’re evaluating where to put your emergency savings, then you’ll need a liquid account above all else.”
Wherever you choose to keep your money, experts agree you should always make sure you’re dealing directly with a federally-insured financial institution.
“There are plenty of online savings accounts that offer competitive yields, federal deposit insurance, access to the money when needed, and do not require a large balance in the account,” said McBride. “There is literally something for everyone.”