What does the US Federal Reserve's interest rate rise mean for UAE residents?

The increase in the interest rate will affect loans, credit cards, mortgages, car financing and savings accounts

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Consumers will pay more to borrow money after the US Federal Reserve’s decision on Wednesday to raise interest rates by a larger-than-expected three-quarters percentage point to stem a disruptive surge in inflation, financial experts say.

The 75 basis point increase raised the short-term federal funds rate to a range of 1.50 per cent to 1.75 per cent, and Fed officials at the median projected the rate increasing to 3.4 per cent by the end of this year and 3.8 per cent in 2023.

The Fed's move is its third interest rate increase in three months and the biggest made since 1994 and was delivered after inflation spiked again in May, jumping 8.6 per cent in the last 12 months.

Central banks are no longer seeking to ensure "cheap money" is available for households, companies and governments to borrow at “exceptionally favourable rates” as they did during the Covid-19 pandemic, said Vijay Valecha, chief investment officer at Century Financial.

“During the pandemic, cheap money was provided to help the economy sustain itself; however, as economies are recovering gradually, the availability of quick money would reduce consumer spending as the cost of borrowing has increased,” he said.

The Central Bank of the UAE raised its benchmark base rate for the overnight deposit facility (ODF) by three quarters of a percentage point. It maintained the rate applicable to borrowing short-term liquidity from the regulator through all standing credit facilities at 50 basis points (bps) above the base rate, the regulator said on Wednesday.

The base rate, which is anchored to the Fed's interest on reserve balances (IORB), signals the general stance of the CBUAE’s monetary policy and provides an effective interest rate floor for overnight money market rates.

The Fed's rate increase comes amid an uncertain global economic outlook fuelled by record-high inflation and Russia’s worsening military assault on Ukraine that has affected commodities markets.

However, the strength of the UAE’s recovery from the pandemic means its economy is well placed to deal with higher rates, said Monica Malik, chief economist at Abu Dhabi Commercial Bank.

“Borrowing costs will rise further, with the Fed firmly focusing on inflation,” Ms Malik said.

Higher rates mean a range of personal finance products — from loans to credit cards, mortgages, savings and remittances — will be affected. Here is a look at some of the effects:

Homebuyers face an increase in mortgage payments after the UAE Central Bank raised its benchmark interest rate on Wednesday. Photo: Luxhabitat Sotheby's International Realty

Mortgages

For mortgage borrowers who have yet to secure a fixed rate, the news might be a concern, said Mohamad Kaswani, managing director at Mortgage Finder.

“However, this has been on the cards for a while, so it shouldn’t come as a real shock. The good news is that even with this recent increase, rates are still at historic lows and there is time to secure a fixed rate before any further hikes later in the year.”

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For borrowers on fixed-rate home loans, there should be no changes to their mortgage payments until they come to the end of their fixed rate period
Mohamad Kaswani, managing director at Mortgage Finder

For borrowers on fixed-rate home loans, there should be no changes to their mortgage payments until they come to the end of their fixed-rate period, Mr Kaswani said.

However, borrowers on variable rate mortgages will feel the change as soon as their next monthly payment is due, he said.

“Most banks use [the] three-month Emirates Interbank Offered Rate [Eibor], so borrowers will see the change at the end of this month. For those who would prefer more stability moving forward, they can investigate moving on to a fixed-rate mortgage.”

The best three- and five-year fixed rates are currently at 3.49 per cent and 3.75 per cent respectively, while variable rates start at 2.35 per cent, according to Mortgage Finder.

Smiling man at coffee break paying with credit card

Credit cards

Interest rates on credit cards in the UAE are already high at more than 30 per cent a year and this type of debt is particularly susceptible to rising rates, according to Century Financial's Mr Valecha.

“Credit card debt already has its own high interest rate, so rate hikes from the central banks will result in consumers eventually paying more on any revolving debt,” he said.

“Now that the Central Bank of the UAE has hiked the interest rates, changes to credit card interest rates typically follow, usually within a billing cycle or two.”

Most credit cards have a variable interest rate, which means there is a direct connection to the Fed's benchmark rate, Mohammed Shaheen, chief executive of broker Seven Capitals, said.

Borrowers with revolving debt should find a zero-interest balance transfer credit card while they can and start to pay down the balance, Mr Shaheen said.

“In other words, people can look to use this opportunity to get themselves out of a debt,” he said.

Dubai, United Arab Emirates - January 10 2012 - Rolls Royces, Bentleys, Maseratis, Ferraris and other high end cars sit at the Exotic Cars Showroom off Sheikh Zayed Road. The company was recently featured on Channel 4's "Billionaire Boy Racers" . (Razan Alzayani / The National)

Loans

Monthly instalments on personal loans and car financing will also rise.

However, the interest rate a borrower will pay depends on a range of factors such as credit history, the type of vehicle they buy, the loan term and down payment.

“Gradual hikes this year will lower consumers' willingness to borrow at high interest rates,” Mr Valecha said.

Abu Dhabi, United Arab Emirates, July 31, 2012:  
UAE dirhams. (Silvia Razgova / The National)

Savings

The historically low interest rates over the past few years has affected savings accounts. But following the Central Bank of the UAE's rate increase on Wednesday, consumers can expect a marginal increase that will boost their savings power.

“However, putting extra money into your savings might not result in as much interest earned from other avenues,” Mr Valecha said.

“Investors can use the higher interest rates as an incentive to boost their savings or emergency fund contributions.”

While traditional banks might be slower to pass on the rate rise to savers, consumers could look at other ways to boost their savings power, Mr Shaheen of Seven Capitals said.

“Online banks offering high-yield accounts tend to pay higher rates than traditional banks,” he said.

US Fed chairman Jerome Powell speaks at a news conference on Wednesday following the decision to raise interest rates by the steepest increment since 1994. AFP

How high can interest rates go?

The Fed is expected to raise interest rates at its remaining meetings this year.

“In addition to higher rates, the Fed will also start to run down its balance sheet at a monthly pace of $95 billion, helping to tighten liquidity conditions further,” Emirates NBD said in a research note.

In April, the Economist Intelligence Unit forecast a total increase of 225 bps this year.

"After two more quarter-point rate rises in the first quarter of 2023, the Fed's main target rate will reach 2.9 per cent," the EIU said on April 25.

Abu Dhabi, UAE - May 29, 2008 -  Carrefour Shoppers in Marina Mall. (Nicole Hill / The National) 
grocery store
supermarket
food

When will consumers feel the pinch?

In the short term, consumers may feel the sting of higher prices more acutely than the pinch of interest rate rises, Mr Valecha said.

But as the Fed continues its rate increase programme throughout the year, consumers will begin to feel the effect, he said.

“Eventually, higher rates will help cool down inflation, which will benefit consumers in the long run.”

Updated: June 16, 2022, 5:17 AM
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