Janet Yellen and the Federal Reserve finally and went and did it. The Federal Fund Rate (or “Fed rate”) was just increased by .25%, bringing the rate between .5% and .75%. Additionally, the Fed will likely increase their rates throughout 2017 by a quarter of a percent at a time.
(If you don’t know what the Fed rate is, read this and then come back.)
According to Yellen, the decision was made to increase the Fed rate after unemployment hit 4.6%, a low that hasn’t been seen since the 2007-2008 recession. During a press conference, Yellen stated that raising the Fed rate meant the Federal Reserve had confidence in the economy’s progress, as wages are slightly increased and consumer sentiment in the economy is more positive than before.
If this all sounds confusing, fret not. Here’s what increasing the Fed rate means for you, and why Janet Yellen and company raised it in the first place:
The federal fund rate was lowered during the recession to artificially stimulate the economy.
As you can see, we’re no longer in a recession. Unemployment is down, wages are slightly up , consumer spending is up, and people aren’t as mad at the economy as they were before. Also, more than 15 million jobs were created since the Great Recession, so that’s something.
The Federal Reserve no longer needs to artificially stimulate the economy, so they increased the Fed rate.
The Fed rate determines the cost for big banks to borrow from other big banks. Also, increasing interest rates effects how savings and money market accounts earn interest, thus providing more of an incentive for people to put money into savings accounts. It will also strengthen the dollar, among many other effects.
The Fed wants to increase their rate to 2.9% by the end of 2019.
This would be done to temper the artificial stimulation of the past several years. While Janet Yellen and her peers realize that there will soon be a major policy change, they still have faith in the American economy and its growth. They also believe they can move closer to their goal of 2% inflation.
On the other hand, the stock market’s reaction this afternoon suggests investors are not happy about the announcement.
When the Fed rate goes up, the incentive for investing in the stock market goes down. Since you can make more interest at banks now without risking your money on the stock market, people are a tad less likely to invest in riskier stocks and funds. This makes investors less enthused about the market’s future, which is why stock indexes like the Dow Jones Industrial Average and the S&P 500 are down today.
The Fed rate may be up and people might soon enjoy higher interest rates at banks, but that doesn’t mean investors will up and leave the stock market. Sure, the market is down today, but it will (hopefully) normalize as investors realize increasing the Fed rate is a necessary step into a healthy economy.