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The Federal Reserve is a complex facet of the American economic system. The Fed determines how much it costs to borrow money at its eight or so meetings per year. One of its jobs is setting a benchmark interest rate for short-term consumer lending, which private lenders use to set their own rates. If the Fed raises the federal funds rate at one of its meetings — as they did at the July meeting — you can expect to pay more for a personal or auto loan.
How Fed rates affect auto loans
The choices discussed by the Federal Open Market Committee (FOMC) during Fed meetings are not the exact interest rates consumers will be offered; rather, they impact the cost for banks to lend to each other. Because of this, banks and lenders may change the rates they offer to consumers when the federal funds rate changes. When the Fed raises interest rates, auto loan rates may rise as well, or vice versa.
September 2023 Fed rate change
In response to the economic disruptions caused by the pandemic, the central bank controls inflation through rate hikes. The target range for the federal funds rate remained at 5.25 to 5.5 percent as of September 20, 2023. The rate remains at its highest in 22 years following the 0.25 percentage point increase at the July meeting, and the FOMC indicated there may be one last hike in 2023.
This number does not control auto rates directly. Rather, it is tied to the prime rate. Simply, the 11 rate increases since the beginning of 2022 mean that vehicle financing could cost you more money. But lenders still hold power regarding the amount charged to borrowers based on a driver’s credit history.
But Sarah Foster, senior U.S economy reporter at Bankrate, notes that now it is just an expensive time to purchase a vehicle — with or without rate hikes.
“Every time the Fed slams the brakes on the economy by raising interest rates, Americans shopping for a car may feel like they’re the ones who will go through the windshield,” she says.
The chip shortage and high inflation combined to cause sky-high prices for new and used vehicles throughout 2022 and into 2023. But rate hikes have a silver lining, Foster says.
“Higher rates are starting to do their job, weighing on car prices,” she explains. “New car prices aren’t growing as much as they used to, while used car prices are nearly 14 percent cheaper today than they were a year ago.”
Why Fed meetings are important
Fed meetings are important because they allow anyone to have a transparent look into the economy — more specifically, the way interest rates change and are expected to shift. If the Fed announces that it is raising interest rates, you can expect to encounter more expensive loans or see interest rates rise on any variable-rate loans you already have.
Check out Bankrate’s Federal reserve hub to see how the FOMC could impact you and your money.
How to prepare for future Fed rate changes
Preparation is the key to saving money. To be best prepared, educate yourself on the current federal funds rate and how shifting rates may impact your wallet. The federal funds rate and auto loan rates aren’t the same, but a domino effect reaches the lenders, which then affects your rates.
Although the current federal funds rate dictates the general range of auto loan rates available, your credit score is the primary factor in determining the amount you pay. To receive a loan with the most favorable terms, you must have a prime credit score, typically 660 and above, and good credit history. The federal funds rate is out of your control, but you can improve your credit score to prepare for future vehicle financing.
When the Fed adjusts rates, available auto loan rates may also change. Although the Fed’s decisions impact your auto loan, the rate you will receive is primarily determined by your financial history.
Regardless of how the federal funds rate changes, set yourself up for the best auto loan rate by working to improve your credit score and finances. It’s also good to keep up to date on current loan rates before applying for a new auto loan.