Stimulus Update: Fed Rate Hikes Could Slow Inflation and Help Make Up for Absent Stimulus Checks

Relief may be forthcoming -- just not in the form of a stimulus payment.

On July 27, the Federal Reserve made a bold move in an effort to fight soaring inflation -- it implemented a 0.75% hike to its federal funds rate for the second month in a row. Now that rate is what banks charge one another for short-term borrowing. But when that rate rises, banks tend to pass higher costs on to consumers.

In the coming months, that could translate into higher credit card interest rates, personal loan rates, mortgage rates, and auto loan rates. But while that might seem like a negative thing, it could actually, in time, spell relief for consumers who have been battered by inflation. And given that there are no plans to send out federal stimulus checks to help the public cope with inflation, that's important.

How rising interest rates might help cool inflation

Inflation is a byproduct of low supply and high demand. When people want to buy goods but there aren't many goods to go around, the cost of those goods tends to rise.

By raising interest rates, the Fed's intention is to make it more expensive for consumers to borrow money. Once that happens, they're apt to start spending less, leading to a better balance between supply and demand and, ideally, the end of rampant inflation.

Of course, it will likely take time for the Fed's actions to trickle down and impact the actual cost of goods. But still, consumers should take some comfort in the fact that steps are being taken to address the problem of inflation.

One step that isn't being taken, however, is issuing another stimulus round. And while that may seem counterintuitive, the logic there actually makes a lot of sense.

A big reason why inflation has soared so much over the past year is that Americans were given extra money in 2021 in the form of both stimulus checks and the boosted Child Tax Credit. But all of that extra cash came in at a time when supply chains were backlogged. That helped spur the sky-high levels of inflation everyone is dealing with right now. And so pumping stimulus funds into the economy is not a good solution to the problem at hand, even though it might seem like one.

Will rising interest rates cause a recession?

That's the fear. The Fed's goal is to get consumers to curb their spending just enough to bring inflation levels down. But if consumers cut back on spending to a substantial degree, it could result in a serious lack of revenue for businesses across the country. That could lead to widespread layoffs and unfavorable economic conditions for a period of time.

At that point, another stimulus round could come into play, depending on the severity of the situation. But right now, stimulus funds aren't the answer to solving the problem of inflation. If anything, they might worsen it.

Meanwhile, there's a silver lining to the Fed's recent actions, and it's that consumers with money in savings accounts could start earning more interest on that cash. At a time when so many households are being forced to pinch pennies, an extra $5 or $10 a month in interest could really come in handy.