Why Interest Rate Hikes Haven’t Had the Negative Impact on the Economy We Expected

Inflation data published Friday show that consumer price growth reaccelerated in January, marking the latest sign that the U.S. economy defies the Federal Reserve’s attempts to cool demand. The data sent stocks tumbling and sparked calls for a hefty half-point interest-rate hike when the Fed meets again next month. This article will explore why interest rate hikes haven’t yet had the negative impact on the economy that both conventional wisdom and historical precedent would suggest.

The Prevalence of Fixed-Rate Loans

Years of low interest rates, which began in the aftermath of the 2008-09 financial crisis and continued through the Covid-19 pandemic, they are allowed for a transformation of much of the debt in the U.S., both household and corporate, away from variable rates that rise as the central bank tightens policy. This means the Fed has less directly impacted consumers’ balance sheets now than in the past. Take mortgages as an example. New York Fed data show that mortgages make up more than 70% of all consumer debt. Before the 2008 financial crisis, nearly 40% of mortgages were adjustable-rate, so Fed rate hikes drove payments up and served to choke off household spending. However, today, just 10% of mortgages are held at adjustable rates—and that share was even smaller, at roughly 3% when the Fed first began tightening policy last year. This means most mortgage payments are locked in at low rates even as the federal funds rate rises. In addition, rates on student debt payments and most auto loans, which make up another 19% of all consumer debt, are similarly fixed. This means households are far less vulnerable to rising interest rates than they used to be—and can better spend their cash elsewhere.

Consumers Are Benefiting from Excess Savings Accumulated During the Pandemic

Households are cash-rich from the pandemic, which initially forced Americans to spend less money, and from the more than $5 trillion passed in fiscal stimulus since 2020, which is continuing to prop up the economy. Morgan Stanley data show that as a result, excess savings—or money saved beyond the average rate—soared to an estimated $2.7 trillion at the peak in late 2021. Much of that cash has been spent already, but a significant share remains. The firm estimates there should be enough savings left to fuel spending through at least the first half of this year for the lowest-income households and through the end of next year for middle-income groups.

Related Facts

• Mortgages make up more than 70% of all consumer debt.
• Before the 2008 financial crisis, nearly 40% of mortgages were adjustable-rate.
• Today, just 10% of mortgages are held at adjustable rates.
• Rates on student debt payments and most auto loans, which combined make up another 19% of all consumer debt, are similarly fixed.
• Excess savings—or money saved beyond the average rate—soared to an estimated $2.7 trillion at the peak in late 2021.

Key Takeaway

The prevalence of fixed-rate loans and the excess savings accumulated during the pandemic have played a role in the economy’s resilience to the Federal Reserve’s interest rate hikes. This has enabled households to remain relatively unaffected by the rising interest rates and has allowed them to continue to spend their cash elsewhere.

Conclusion

The economy’s resilience to the Federal Reserve’s interest rate hikes is due to several factors, including the prevalence of fixed-rate loans and the excess savings accumulated during the pandemic. These factors have enabled households to remain relatively unaffected by the rising interest rates and have allowed them to continue to spend their cash elsewhere. This has proved to be a boon for the U.S. economy and will likely remain so for the foreseeable future.