It is three weeks before Black Friday, but the Federal Reserve has likely made the post-holiday debt hangover a little more intense.
The central bank made a widely expected move last week, adding another 75-basis-point increase to a key interest rate.
This rate hike will be reflected in credit-card rates in December 2022 or January 2023. In other words, pay off your post-holiday credit-card balance in full.
Every year, many people accumulate credit-card debt through the holiday season, pay it off in the early part of the following year — and then repeat the process.
Holiday sales could reach up to $960.4 billion, according to the National Retail Federation. That represents a 6% to 8% increase in sales on the previous year, which is inline with 2021, but slower than the 13.5% growth in 2020.
What’s different in the 2022 shopping season? Economists point to 40-year high inflation, coupled with rising interest rates. The Federal Reserve hopes its four-consecutive 75-basis-point interest rate hikes will ultimately cool inflation, without sending the economy into recession.
Wednesday’s rate hike takes the federal funds rate to the 3.75% to 4% range. To put that in context: It was near zero last year’s holiday season.
“It’s not the time to overspend and have a problem with paying your bills later. We know the economy is sending mixed messages,” said Michele Raneri, vice president of financial services research and consulting at TransUnion TRU, +2.87%, one of the country’s three major credit-reporting companies.
It’s extra important to think through a holiday budget and how much relies on credit, she said. “People need to think about how much they can afford to repay and how long it will take to repay it.”
Holiday spending could be the same as 2021 for many people — but not everyone
Last month, third-quarter earnings from major banks like JPMorgan Chase & Co. JPM, +0.53%, Wells Fargo WFC, +0.71%, Citibank C, +1.33% and Bank of America BAC, +0.60% indicated consumer finances, on the whole, are not yet showing cracks under inflation’s strains. (Other numbers, like the personal savings rate, are showing a strain.)
The National Retail Federation estimates that people are planning to spend just over $830 on gifts, decoration and food related to the holidays, inline with the average for the past 10 years. And yet Matthew Shay, the retail trade association’s president and CEO, said many are not shrinking away from purchases.
And yet Americans are planning to spend an average $1,430 on gifts, travel and entertainment this year, broadly inline with the $1,447 spent last year, according to PwC researchers. Three-quarters of people said they were planning to spend the same or more than last year and respondents said credit cards were one of their top ways to pay.
“ Compared to last year, credit card balances are getting bigger, more people are sitting on balances and debt costs are getting pricier.”
By another measure, Americans will pay $1,455 on average on holiday-related gifts and experiences, essentially flat from last year, say Deloitte researchers.
The bad news: More than one-third of surveyed consumers say their financial outlook is worse than the same point last year. Nearly one-quarter of people were concerned about credit-card debt as of late September, Deloitte said.
Households amassed $890 billion in credit-card debt through the second quarter, just shy of a record high of $930 billion in the fourth quarter of 2019.
Those who carried a monthly credit-card balance through the end of September had an average balance of $5,474, Raneri said. That’s an increase of nearly 13% year-over-year, she said. The number people carrying a credit-card balance rose 5% to 164 million.
Americans who carried a credit-card balance during the third quarter had an average 18.43% APR, Federal Reserve figures show. That’s up from 16.65% in the previous quarter, and up from 17.13% in the third quarter of 2021.
How the Fed influences credit card rates
Credit-card issuers typically determine their rates by applying a “prime rate” — typically three percentage points on top of the federal funds rate — and the issuer’s profit margin, said Ted Rossman, senior industry analyst at Bankrate.com.
By late October, the rate on new card offers was 18.73%, according to Bankrate data. It was 16.31% this time last year, Rossman said. In a few weeks, the rates on new offers should beat the all-time record of an average 19% APR, exclusive to new offers, he added.
While it can take a billing cycle or two for a higher APR to make its way to an existing credit card account, Rossman noted the APRs on new offers could rise in a matter of days.
Here’s a hypothetical to show how much more expensive credit card debt becomes with every extra hike. Suppose the $5,474 balance is on a credit card with the current 18.73% average. If a person has to resort to minimum payments, Rossman said, they’d be paying $7,118 just in interest to pay off the debt.
“ In a few weeks, the rates on new credit card offers should beat the all-time record of an average 19% APR.”
What if the 18.73% APR gets kicked up 75 basis points to 19.48%? If that same borrower has to pay minimums, they are now paying $7,417 in interest to snuff the principal debt of $5,474, Rossman said.
The example has its limits because people may pay more than the minimum and they may incur more credit card debt as they pay off the old one. But it shows a bigger point: “Unfortunately, anybody dealing with credit-card debt is a loser from the series of rate hikes. It was already expensive. It’s getting more so,” Rossman said.
When do rate hikes stop?
While decisions during the Fed’s November meeting can have a ripple effect on holiday-time borrowing costs, observers say the real question about Wednesday is the clues Federal Reserve Chairman Jerome Powell drops for what’s next. The central bank’s committee voting on interest rate increases reconvenes in mid-December.
On Wednesday, the Fed said in a statement it expected further rate increases, but also said it would be watching to see if there were lag effects with its tightening policies, which could slow or limit the total amount of increases.
“People, when they hear lags, they think about a pause. It’s very premature, in my view, to think about or be talking about pausing our rate hike. We have a ways to go,” Powell told reporters at a Wednesday afternoon press conference.
“Top economists polled as part of a banking industry panel expect Fed rate increases through at least the first quarter of 2023.”
The economy is strong enough to handle higher rates, Powell said. For one thing, households have “strong balance sheets” and “strong spending power,” he noted.
Stock markets first jumped higher after the latest interest rate announcement. But they gave up the gains — and then some — by the end of the day. The Dow Jones Industrial Average DJIA, +1.31% was down more than 500 points, or 1.6% while the S&P 500 SPX, +0.96% was down 2.5% and the Nasdaq Composite COMP, +0.85% closed 3.4% lower.
By Thursday, the indices were trying to break a three-day losing streak but still trading lower near the end of the session.
In September, top economists in major North American-based banks forecasted the Fed will keep raising interest rates “until the first quarter of next year before potentially lowering rates through the end of 2023,” Sayee Srinivasan, chief economist at the American Bankers Association, the banking sector’s trade association, said ahead of Wednesday’s latest rate hike.
The forecast, coming through an ABA advisory committee, is no sure thing. “Everything depends on the ability of the Fed to bring inflation down, so that will remain their clear priority,” said Srinivasan.
Meanwhile, rising costs may cause more people to put the holiday cheer on plastic, even the decorations. The majority of Christmas tree growers in one poll are expecting wholesale prices to climb 5% to 15% for this season.