What a Fed rate increase means for savings and checking accounts

Bearded man reads about Fed rate increase on his laptop
September 13, 2022 | Lois Sullivan

You've probably heard about the interest rate hikes occurring in an attempt to curb inflation. But unless you're looking into taking out a new loan, you may not realize how these changes affect your financial situation. The good news is if you have an account that offers interest, the rate hikes can benefit you. Find out more about what a Fed rate increase means for savings and checking accounts.

What is a Fed rate increase?

The idea of raising interest rates on a national level is often referred to as a Fed rate increase or hike. This term refers to the federal funds rate, or the interest rate that financial institutions across the United States charge to borrow and lend money to one another. The Federal Reserve establishes the rate and uses it to adjust financial policies based on current economic conditions. Since inflation has been steadily rising in the recent past, leaders of the Federal Reserve decided to increase the federal funds rate.

Rate increase and inflation

Inflation, or the rate of increase of the price of goods and services, has been on the rise. Between June 2021 and June 2022, the inflation rate was 9.1%, which was the highest increase in more than four decades. Food, housing and gas prices have gone up substantially, leaving many Americans feeling stretched and anxious about their financial futures. In an effort to combat fast-rising prices, the Federal Reserve issued multiple federal funds rate increases.

When the Fed rate goes up, several things happen that can slow the inflation rate. Higher interest rates typically lead to higher loan and credit card rates, which deter people from borrowing money. As a result, people spend less, which can cause a drop in demand. When demand is high, prices can increase.  

How a Fed rate increase affects savings and checking accounts

Although a Fed rate increase can have a negative impact on those trying to borrow money, the effects on high-yield checking and savings accounts are more positive. Any funds you have in one of these accounts can earn interest, and the annual percentage yield (APY) of these accounts often go up with the federal funds rate.

In general, a savings account can offer a higher yield than a checking account, so keeping at least a portion of your money in a high-yield savings account is a good choice. If you already have an account, you may have noticed an increase in the amount of interest you receive each month. Many financial institutions have adjusted their rates based on the Fed rate hikes.

Those who keep their money in high-yield accounts can see the benefits quickly. If you have $10,000 in a savings account that offers a 0.01% APY, you would earn approximately $1 per year in interest. But a Fed rate hike that boosts the APY of your account to 0.5% would mean you'd earn $50 per year in interest. That's a sizable increase, making it worthwhile to find a bank or credit union that can offer a more competitive rate.

How to choose a high-yield account

If you want to take advantage of the benefits of a high-yield savings or checking account, it's helpful to compare options and choose the best financial institution for your needs. You can examine interest rates and requirements for various accounts online, or you can contact a bank or credit union directly to learn more about what they offer. Online banks and credit unions can often provide higher rates than community banks with brick-and-mortar locations and higher overhead costs, so include online options in your comparison.

As you consider which financial institution to choose, it's helpful to look for a few core features. The accounts you open shouldn't have minimum deposit or balance amounts, as you don't want to worry about incurring fees if an account balance drops. A user-friendly website is also a must-have in today's tech-forward world.

You may want to read reviews to learn more about the level of service offered by the banks and credit unions you're considering. Make sure to only use institutions that are insured by the Federal Deposit Insurance Corporation (FDIC), which protects banks, or the National Credit Union Administration (NCUA), which protects credit unions, to shelter your savings.

When opening a new account, it's best to have both a checking and a savings account, as their purposes and uses differ. A checking account is meant for everyday expenses, as you can typically withdraw and deposit as often as you want without incurring penalties or fees. A savings account is a short-term deposit account that offers a reasonable level of liquidity but is meant for saving rather than spending. You can typically make at least a few withdrawals per month without incurring a fee, but be aware of the rules to avoid penalties.

Benefits of saving money

With a better understanding of the federal funds rate, you may be wondering whether it's worthwhile to keep money parked in a savings account, especially when dealing with the effects of inflation. Saving money is always worthwhile, and keeping your money in a secure and federally backed account provides an added layer of protection. Gaining the discipline it requires to save money can also benefit you now and throughout your life, helping you to live within your means and avoid unnecessary debt.

It's smart to build up a savings account that would cover three to six months of living expenses. But if you're not there yet, don't despair. Any amount of money in a savings account is better than nothing and can serve as a safety net if an urgent need comes up or you find yourself in an unexpected financial position. By keeping your emergency fund in a savings account, you can watch the amount grow, especially as the Fed rate goes up. A high-yield savings account allows you to earn money without doing anything.

If you're struggling to save money, consider establishing a budget and sticking to it. By figuring out exactly where your money goes every month, you can identify areas to trim and keep your spending under better control. You might also consider setting up an automatic transfer from your checking account to your savings account as soon as you get paid. If the money you're trying to save isn't sitting in your checking account, you might feel less tempted to spend that money.

Understanding economic shifts and predictions can help you prepare for the future and protect your finances from a recession, inflation and other challenging situations. With a better understanding of the federal funds rate and its effects on savings and checking accounts, you can determine how to save your money more effectively. Alliant is a trusted provider of financial situations to clients located across the nation, and our accounts are backed by the NCUA to protect you and your financial goals. Contact Alliant if you have any additional questions about savings or checking accounts.

Read more about banking and saving:

Should I keep a local bank account after opening an online bank account?

What are the advantages of credit unions?

NCUA vs FDIC: When you know how it works, you can "rest insured"

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