There’s been a lot of talk in the news about the Federal Reserve and its decision to raise interest rates throughout the rest of 2022. While that may sound like something that only affects businesses or people who need a mortgage, it can also impact you personally if you’ve got any outstanding credit card debt.
For those cardholders who are currently carrying a balance, they may have noticed that the amount of interest that accumulates over one month is higher than usual. Unfortunately, this is a trend that is not likely to stop any time soon. In fact, it may even get worse over the next one to two years.
In this post, we’ll talk about how interest rate hikes are related to your credit card debt, and what you can do about it.
Why are Interest Rates Increasing?
The reason why interest rates are increasing has to do with two main components: inflation and action from the U.S. Federal Reserve (also known as the Fed).
The COVID-19 pandemic that began in 2020 was an unprecedented time to say the least. Not only was there concern among the population about becoming sick, but millions of people suddenly found themselves unemployed while the country came to a virtual standstill.
To keep the economy afloat, Congress passed a series of relief packages designed to provide aid to both citizens and businesses. The largest of these packages were the CARES Act of 2020 for $2.2 trillion and the American Rescue Plan of 2021 for $1.9 trillion.
At the same time, there were major supply chain disruptions. Factories stopped producing important parts like semiconductors and shipping containers were stuck at sea with no way to deliver to those who needed their contents.
Meanwhile, demand for once-booming industries like travel came to halt in 2020. However, once people began to start traveling again, the need for fuel surged causing the price of energy to rise dramatically.
All of these ingredients became a recipe for rising prices between 2021 and 2022. Cumulatively, the U.S. Bureau of Labor and Statistics (BLS) measures inflation by tracking changes in the Consumer Price Index (CPI) over a 12-month period. As of March 2022, inflation stands at 8.5 percent – the highest it’s been in 40 years.
Action from the Federal Reserve
When inflation becomes unnaturally high, it’s the job of the Fed to bring it under control and stabilize the economy. This is usually done by raising what’s known as the federal lending rate. The federal lending rate is how much banks will pay to borrow money from one another.
Starting in March 2022, the Fed initiated its first rate hike in almost three years and announced six more to come throughout the rest of the year. While this will eventually curb demand and stop prices from rising, it can result in some undesirable consequences such as increased consumer interest.
What Does This Mean for My Credit Card Debt?
When Federal Reserve raises its interest rate, it sends a ripple effect throughout the entire financial industry causing the interest rates of other financial products to increase too. The reason for this is because the “prime rate”, a value used internally by the banking industry, is influenced by the Federal lending rate. The prime rate is how banks set the rates for all other products such as business loans, mortgages, credit cards, etc.
Many people don’t realize this, but the interest rate that is charged by their credit card is not fixed. It’s a variable rate, meaning it’s free to change over time as the prime rate fluctuates. Therefore, when the Fed increases its rates, the interest rate of your credit card will also likely increase meaning you’ll be charged more money each day for any outstanding balance.
What You Can Do About Interest Rate Increases
There are a few ways you can fight back against rising credit card interest rates.
Pay More Than the Minimum
When credit cards send you a bill with a stated minimum payment, this is simply the lowest amount they are legally required to make you pay. In reality, the credit card companies would be happy to let you pay nothing because your debt would grow and the interest charges would be higher.
For this reason, never pay just the minimum. Always pay as close to the full statement balance as possible.
Make a Balance Transfer
If you’ve got a relatively high credit score and would like to eliminate your debt before interest rates start rising too high, then consider making a balance transfer. Many credit cards offer balance transfers with a promotional zero-percent APR that lasts anywhere from 12 to 18 months.
Balance transfers can be helpful as long as you stay disciplined and pay off your debt before the promotional period ends. Just be sure to read the fine print first and make sure that there aren’t any costly fees.
Pay Off Your Balance and Start Using Cash Instead
If at all possible, the best thing you can do is to pay off your balance in full and move over to a cash-based system instead for the majority of your purchases. Doing this will completely mitigate any chances of racking up more debt and being charged interest.
Please note that it won’t be a good idea to completely stop using your credit altogether. Non-use of credit can reflect poorly on your credit history and potentially lower your credit score. Even if you just use your card for something basic like buying gas for your car, that will be better than nothing.
Of course, paying off your credit card balance is easier said than done. In order to do this, you’ll have to really dig deep and plan your budget. Your budget should be a plan for how you intend to spend your monthly income. Part of this plan should include finding places to cut that could instead be used to pay down any existing credit card debt.
If you need help creating a budget, then try an app like Buxfer. Buxfer lets you customize limits for each of your spending categories, and then monitors your financial activity so that you’ll always know how you’re doing. This will help you to better understand which habits need adjusting and if you’re making positive progress towards your financial goals.
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