We’ve been dealing with elevated inflation, and elevated interest rates, for a while. The consumer price index had already shot up to 8.5% year over year in March 2022 when the Federal Reserve finally — belatedly, in the view of many — started hiking the federal funds rate. That rate had been set essentially at zero early in the pandemic to try and prevent a catastrophic economic contraction.
The goal of the Fed’s string of rate increases, culminating in a hike to 5.25% to 5.5% in July, was to slow the economy and dampen inflationary pressures by driving up the cost of borrowing. As a result, businesses and consumers have faced higher interest charges on bank loans, credit cards and mortgages.
The Fed said as it was raising interest rates that its actions would have a “lag effect” on the economy. And that effect is playing out.
It took a little while, but higher rates are definitely putting the brakes on the economy now, said Sam Stovall at CFRA Research. “We’ve seen them bite primarily in gross domestic product growth by restricting lending practices by banks as well as raising mortgage rates. So far this year, we’re in a descending trend.”
GDP growth shrank from 4.9% in the third quarter of last year to 1.3% in the first quarter of this year.
Stovall said stocks, in contrast, have pretty much shrugged off higher rates. “Nobody has really been hurt. The [S&P 500 index] is up almost 18% since the Fed’s last rate hike — 10 of 11 sectors have posted price gains,” he said.
The outlier sector that’s lost ground? Not surprisingly, it’s real estate.
“When the Federal Reserve aggressively raised interest rates, essentially it priced out many buyers,” said Lawrence Yun at the National Association of Realtors.
He said with mortgages at 7%, a lot of would-be buyers are on the sidelines. And, a lot of sellers don’t want to give up their old 3% mortgages.
Elevated borrowing costs finally appear to be causing consumers to pull back as well — with credit card interest rates the highest on record.
“Consumers are voicing frustration over high interest rates,” said Joanne Hsu. She directs surveys of consumers at the University of Michigan’s Institute for Social Research.
Hsu said high rates hit lower-income and younger consumers — who are more likely to borrow to make ends meet — hardest.
Economist Robert Frick at Navy Federal Credit Union said his front-line colleagues are starting to hear customers groan. “People who had their finances pretty well in shape, now a lot of those people are starting to be late on payments, feeling a lot of financial pain. It is working itself up the wage scale,” he said.
Which he expects to continue until interest rates come down again.
