How Federal Reserve interest rates affect bank interest rates

You’ve probably noticed that banks have been paying much higher interest rates than anytime in the last decade or so. The last time we saw rates as high as today, it was back in the late 2000’s.

Interest rates are so high in part because of the actions of the Federal Reserve. Specifically, the Federal Open Market Committee (FOMC).

The FOMC meets eight times a year and decides, among other things, whether or not to change the target federal funds rate. That target federal funds rate is what banks look at to determine their own interest rates on savings accounts, money market accounts, certificates of deposit, and more.

Let’s dive in.

Table of Contents
  1. What is the Federal Open Market Committee?
  2. How the federal funds rate affects savings
  3. What should spenders do?
  4. What should savers do?

🔃Updated February 2023 with the results of the February meeting of the Federal Open Market Committee when they raised the target Federal Funds Rate by 25 basis points to 4.50-4.75.

What is the Federal Open Market Committee?

The Federal Open Market Committee is a group of twelve people:

  • seven members of the Board of Governors of the Federal Reserve System (Federal Reserve Board),
  • the president of the Federal Reserve Bank of New York,
  • four of the remaining eleven Reserve Bank presidents – they serve 1-year terms and rotate

The members of the Federal Reserve Board are appointed by the President of the United States (confirmed by the Senate) and serve 14-year terms.

The president of a Federal Reserve Bank is selected by the Bank’s Class B and C directors and approved by the Board of Governors.

The rotating seats, of which there are four, are selected from these groupings:

  • One from Boston, Philadelphia, or Richmond,
  • One from Cleveland or Chicago,
  • One from Atlanta, St. Louis, or Dallas,
  • One from and Minneapolis, Kansas City, or San Francisco.

The other presidents attend the meeting but do not vote.

The FOMC meets eight times a year in January, March, May, June, July, September, November, and December.

At those meetings, the FOMC discusses quite a bit about monetary policy and the economy but the primary tool that impacts you, as a saver, is how the FOMC uses open market operations to “set” the target federal funds rate. This is what the FOMC would like banks to charge one another to borrow funds overnight.

The current federal funds target rate (range) is – 4.50%-4.75% (set on 2/2/2023).

How the federal funds rate affects savings

When the FOMC increases the federal funds rate, it pushes banks to increase their rates too. Remember, the target rate is what the FOMC would like it to cost banks to borrow from one another.

It’s also what the public sees – so they expect banks to raise their rates. And some do, which leads to more competition. Which leads to more banks doing it – so there’s a link between the two but it’s not a direct one. It’s not like banks look at the target rate and are, in some way, forced to increase rates.

The invisible hand of the market still plays a role.

The Federal Reserve has raised the target federal funds rate six times in 2022 (with one more meeting to go!) as it tries to get inflation under control – which means banks have followed suit and raised their rates as well.

I update the rates on myself and can attest to how often I’ve had to increase the listed rates of many savings accounts, money market accounts, and CDs. It’s great to see!

Online banks, the ones with the highest rates already, tend to move more quickly to adjust their rates. If you look at the savings rates of some of the biggest national banks, they’re still under 0.05% APY. Our list of the best high yield savings accounts is predominantly online banks for a reason.

What should spenders do?

We are currently in a rising interest rate environment, we know this because the Fed has consistently said it will raise rates until inflation is held in check. This means that it makes sense to go with banks with the highest yield but avoid locking in rates for any significant period of time.

Here are the results from the last six meetings:

FOMC Meetings
Rate Change
Federal Funds
Target Rate
February 2023+254.50% – 4.75%
December 2022+504.25% – 4.50%
November 2022+753.75% – 4.00%
September 2022+753.00% – 3.25%
July 2022+752.25% – 2.5%
June 2022+751.5% – 1.75%
May 2022+500.75% – 1.00%
March 2022+250.25% – 0.50%

The FOMC raised rates by 50 basis points in December but just 25 basis points in February.

As rates go up, the cost to borrow goes up too. When the Fed raises interest rates, they’re hoping to slow the economy and all borrowers can expect to pay more in interest payments.

If you are carrying a large loan balance with a variable rate, you should try to pay that down because rates will go up as the Fed increases rates. Credit cards are notorious for this. They will increase rates as the Fed increases rates.

If you are looking to lock in a fixed rate, like a mortgage, that is a bit trickier because rates fluctuate along with housing demand too. Mortgage rates are down 1.125% from their 2022 peak.

As a general rule, the longer you wait in a rising rate environment, the higher your interest rates is likely to be. Not guaranteed, but likely. As we’ve seen in 2022, they did go up along with the rate hikes but then peaked as demand waned. Who knows where they will go from here though.

What should savers do?

Compared to spenders, you’re on the other side of the coin.

Don’t lock your savings for a long term.

12-month CDs can make sense but no-penalty CDs are probably the best option right now if you want to lock in for some time with a higher yield. As of this writing, the highest 12-month CD we have listed yielded 4.60% APY while the highest no-penalty CD was a 14-month at 4.05% APY.

Or, you could go with this offer from Ponce Bank – 1-Month CD with a yield of 4.50% APY. A short term CD with a high rate. (this is offered through SaveBetter)

If your savings are at a brick and mortar bank that is paying you under 1.00% – you should change banks. Maybe look at some bank bonuses to see if you can get extra cash to move but you really need a bank that pays you a little bit of interest on your savings!

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About Jim Wang

Jim Wang is a forty-something father of four who is a frequent contributor to Forbes and Vanguard's Blog. He has also been fortunate to have appeared in the New York Times, Baltimore Sun, Entrepreneur, and Marketplace Money.

Jim has a B.S. in Computer Science and Economics from Carnegie Mellon University, an M.S. in Information Technology - Software Engineering from Carnegie Mellon University, as well as a Masters in Business Administration from Johns Hopkins University. His approach to personal finance is that of an engineer, breaking down complex subjects into bite-sized easily understood concepts that you can use in your daily life.

One of his favorite tools (here's my treasure chest of tools,, everything I use) is Personal Capital, which enables him to manage his finances in just 15-minutes each month. They also offer financial planning, such as a Retirement Planning Tool that can tell you if you're on track to retire when you want. It's free.

He is also diversifying his investment portfolio by adding a little bit of real estate. But not rental homes, because he doesn't want a second job, it's diversified small investments in a few commercial properties and farms in Illinois, Louisiana, and California through AcreTrader.

Recently, he's invested in a few pieces of art on Masterworks too.

>> Read more articles by Jim

Opinions expressed here are the author's alone, not those of any bank or financial institution. This content has not been reviewed, approved or otherwise endorsed by any of these entities.

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