How the Increase in Fed Interest Rates Affects Your Credit Card
How can Arro maintain credit card interest rates that are 50% lower than others? We explain how interest rates work and reveal why your interest rates have gotten so high over the last year.
Author: Gabe Kahn
January 31, 2023|Insight
It’s hard to open up a credit card statement or look at a credit card website these days without feeling a nasty case of sticker shock. Credit card interest rates, or Annual Percentage Rates (APRs), have risen substantially since the Federal Reserve began increasing the prime rate in March 2022. This has affected both existing credit card holders and people looking to find new credit cards. Cards targeting customers across the credit score spectrum have raised their rates, making it difficult to find a product that gives any hope of an APR below 25%.
Why APRs Are Increasing
When the Federal Reserve raises interest rates, this increases the price that banks have to pay in order to borrow money from other banks called the Federal Funds Rate. This makes it more expensive for banks to acquire money to lend out, whether they are getting it from other banks or offering a higher yield on deposits. Just like an increase in the price of aluminum might make cars more expensive to produce, a rise in interest rates makes lending more expensive.
When this occurs, banks have the option to keep the price the same – which will decrease their profit margin – or pass the price increase onto consumers in the form of higher APRs. Most credit cards have variable interest rates. This means that the interest rate is directly tied to a specific index and changes whenever that index changes. So as the Fed raises interest rates, your credit card APR goes up automatically.
Shouldn’t My Bank Notify Me When They Increase My APR?
The bank doesn’t need to tell you if your APR increases for this reason, so if you were wondering why your interest rate seems higher than it did a few months ago, this is likely the answer. The good news about variable interest rates is that the rates will automatically decrease again when the same index falls – so if the Fed lowers rates, the rates on your existing cards will decrease as well.
So Should I Open a New Credit Card With a Lower Interest Rate?
APRs for new credit cards are also determined by the Federal Funds Rate, but the relationship is more indirect. Since these APRs only affect new customers, credit card companies don’t need to abide by a Cardholder Agreement that promises they will decrease rates when the Funds Rate goes down just as they increased them when it went up. This means that credit card APRs remained high even when the Prime Rate decreased during the pandemic AND they are increasing further in 2022.
Why Credit Card Interest Rates Matter
APRs are difficult to understand which makes it challenging to make fully informed choices about which credit cards to get and how much credit to use. In short, APRs are the price you pay for holding credit card debt. This means that higher interest rates will make debt accumulate faster if you aren’t paying your full balance off every month. Furthermore, interest charges often go directly into your minimum payment calculation, so all interest that you accrue this month will be part of the minimum payment you are required to pay next month.
How Do Credit Card Interest Rates Affect My Monthly Statement?
Let’s use an example to see how this affects common credit card payments. Since early 2022, the APR offered on the Capital One website for their Platinum card, one of the most popular cards on the market, has increased from 27% to nearly 30%. Let’s imagine that you are holding $5,221 on your Platinum card, the average credit card balance at the end of 2021. In early 2022, you would be charged $117 per month in interest on this balance at a 27% APR. At a 30% APR, you would be charged $130 per month in interest. This adds up to more than an additional $150 in credit card interest you are paying every year - money that isn’t going to bring your debt down, but just to stop it from getting larger.
Almost every major credit card company is following suit. Here are the current interest rates and fees charged by some of the most popular credit cards offered in the Fair credit space:
How Arro is Different
You’re probably wondering one of two things:
Arro will definitely save me some money, but that’s still a lot of interest!
How can you afford to charge so much less than your competitors?
To point number 1, we completely agree! This is why a low interest rate is only part of what Arro offers. Arro was built using a behavioral science backed approach to help you build credit while staying out of debt. Customers approved for an Arro Card receive a $50-$200 credit line and are able to increase their credit lines by making large payments and learning how to get and stay out of debt.
Other companies might offer you a $3,000 or $5,000 credit line to go with their 30% interest rates, which is challenging to manage without accruing interest and debt. They don’t care if you’re getting into debt as long as you make the minimum payment every month. Our model is built around making large payments so that most months, you aren’t paying any interest at all on your debt. That will keep your credit score high and your interest payments low, while giving you credit at the lowest interest rate we can give you in case of emergencies.
Why is Arro’s APR so Low?
So how are we able to maintain an interest rate nearly 50% lower than our competitors? At Arro, we only want to succeed when you succeed – that means using your card to buy things that are important to you and being able to pay it off without accruing debt. Our commitment to this is so strong that we’ve set our interest rate well below our competitors and given you opportunities to lower it further by making payments, budgeting, and paying down your debt. We believe that it’s time for a company to show all of the other credit card companies that they’re doing it wrong and put the welfare of their customers before anything else.