How should I save if the Fed cuts rates?

The news is often filled with headlines around hikes or cuts to interest rates. When it comes to the latter, you might wonder what does a Fed rate cut mean—especially if you’re working on building up your savings?  

Different market conditions cause the Federal Reserve (the Fed for short) to raise or cut the federal funds rate, the term given to the short-term interest rate banks charge each other to lend funds overnight. The Fed sets the federal funds rate and decides whether or not to raise or lower this benchmark interest rate in order to reach maximum employment and stable inflation.

Though you may not follow the news about Fed rate cuts as closely as news about your favorite sports team, you still might wonder how rising interest rates will impact your finances. It’s a good question. If you’re looking to save money, you might be specifically concerned about the effect of a Fed rate cut on your savings accounts. 

But first things first: What does a Fed rate cut mean? When the Fed decides to cut the federal funds rate, banks could cut the interest rates on deposit accounts such as savings accounts and money market accounts. This means you could earn less on the money you’ve stashed in these savings vehicles.

“For most people, this type of rate change in their savings account won’t lead to financial hardship,” says Eric Rosenberg, financial writer, speaker, and founder of a personal finance website.  

A Fed rate cut can also lower the amount of interest you pay to borrow money with credit cards, loans, and home equity lines of credit (HELOCs). This means that in a lower rate environment, borrowing is actually less expensive, and the cash that you save could be used for spending or savings priorities. “You should always take a little time to make sure your money is in the best place and working to help you reach your financial goals,” Rosenberg says.

If you’re in a savings mindset, there’s no need to stress. When it comes to the effect of a Fed rate cut on your savings account, the news isn’t all bad. By understanding some savings and money management strategies, answering the question of “How should I save if the Fed cuts rates?” won’t be as confounding.

Here’s a primer on how a Fed rate cut could impact your savings account and what you can do to continue to save:  

1. Find a competitive savings account rate

When it comes to a Fed rate cut and your savings account, consider looking for a more competitive interest rate. Online-only banks may offer high-yield savings accounts that have better interest rates than your traditional brick-and-mortars. For example, Discover offers a high-yield savings account with an interest rate over 5x the National Savings Average.¹ So, while rates may go down on average in a low-rate environment, you can potentially earn a higher interest rate on your savings if you research your savings account options.

When you consider the effect of a Fed rate cut on your savings account, remember that rate isn’t everything. You’ll also want to keep fees top-of-mind, as fees for maintenance, specific activities, and maintaining a minimum balance can really put a dent in your interest earnings. Customer service and the online and mobile banking experience should also be on your list of considerations.

2. Leverage fixed-rate certificates of deposit

If you’re wondering how a Fed rate cut could impact your savings account, you’ll want to get acquainted with a fixed-rate CD. A fixed-rate CD is a deposit account with a set term, typically running anywhere from three months to 10 years. One of the benefits of a certificate of deposit with a fixed rate is that the interest rate is locked in for the entire CD term. Regardless of what the market does, money you put into a fixed-rate CD will continue to grow at the rate you receive when the account is opened. Nope. It’s not too good to be true.

If you’re planning for how you should save if the Fed cuts rates, consider opening a certificate of deposit with a fixed rate before the rates start to drop or drop further. That will allow you to lock in a higher rate than what might be available later.

“CDs give you the ability to save at a top interest rate with FDIC insurance,” Rosenberg says. “As long as you know you won’t need the money for a certain period of time, you can open up a new [fixed-rate] CD and keep earning today’s rate even if rates go down.”

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If you save money in interest from lower borrowing costs following a Fed rate cut, you could also consider redirecting your savings to a certificate of deposit. “If your HELOC is linked to prime [which is based on the federal funds rate], then you can funnel your newfound interest savings into a CD,” says Dr. Tisa Silver Canady, an author and financial consultant.

If you’re considering a certificate of deposit when answering the question, “How should I save if the Fed cuts rates?” note that not all CDs come with a fixed rate. With a variable-rate CD, for example, you’ll typically earn a percentage based on the difference between the interest rates at the beginning and end of your CD’s term.

3. Consider bonds and stocks

When you’re considering how a Fed rate cut could impact your savings account, you may look beyond savings and into investments like bonds and stocks.

Since the Fed is trying to stimulate the economy when it cuts its federal funds rate, it’s possible that bond prices may increase.

“While [bond] yields will likely drop to some degree, you may also get higher yields than you would on other investments,” says Miranda Marquit, a financial expert and writer and the founder of a personal finance website.  

Marquit says that when the Fed’s short-term interest rate is cut, the stock market may perform better. If you’re wondering “how should I save if the Fed cuts rates,” Marquit adds that if you have the risk tolerance for it, the period after a Fed rate cut might be a good time to put a little extra in some of your investment accounts, such as stocks and bonds.

4. Keep some savings liquid

While the interest rate on a traditional savings account could decrease in a lower rate environment, there is still value in parking funds in this type of account. Even if you’re focused on the effect of a Fed rate cut on your savings account, there are factors to consider beyond interest income, after all. For example, money in a savings account is liquid, meaning you can easily withdraw cash if you have a short-term savings goal or an unexpected need.²

Experts typically recommend that you keep at least three to six months of expenses stashed in a savings account for your emergency fund. This is a fund that you draw on for unanticipated costs and curveballs (a plumbing nightmare, car repair, and cough you can’t shake are among the many reasons for an emergency fund). 

“If you need your money on short notice, your best choice is a low-fee, high-interest savings account,” says Rosenberg, the finance blogger. “While you may see your rate cut at some point, it is still the ideal for emergency funds and short-term savings.”

5. Pay off debt for long-term savings

If you’re thinking about how a Fed rate cut could impact your savings account, you actually may want to focus on credit and debt repayment. The idea is that with less interest earned on savings, you may want to consider using funds to pay off debt that’s incurring a higher interest rate. By paying off high-interest debt, you’re actually saving money over the long run by reducing interest payments.

If you have existing loans, you can also explore refinancing them. When there’s a Fed rate cut, you’ll often find lower rates than those that were available in a higher rate environment. You can then redirect the savings into a high-yield savings account, fixed-rate CD, or investment vehicles like stocks and bonds.

Prepare your finances for a lower rate environment

Understanding how a Fed rate cut could impact your savings account and other aspects of your financial life can be important for your money management decisions. “We often think of policymakers debating things that don’t really impact us. However, the Federal Reserve’s monetary policy does affect our lives, and you need to be prepared for that reality,” Marquit says. By re-examining your savings and investment strategies, and understanding the implications of a Fed rate cut, you’ll be ready to respond.

One opportunity is understanding that the effect of a Fed rate cut and your savings account can work together, despite a possible interest rate decrease on your deposit accounts. The flip side is that it also lowers the amount of interest you pay on things like credit cards and loans. So, responding to those impacts accordingly with smart financial moves can make a positive difference for your hard-earned savings.

So, what does a Fed rate cut mean for your finances across the board? In addition to savings, see what happens with everything from credit to mortgages during Fed rate cuts.

* This should not be considered tax or investment advice. Please consult a financial planner or tax advisor if you have questions.

¹ The APY for the Online Savings Account as of 03/01/2023 is more than five times the national average APY for interest bearing savings accounts with a balance of $500 as reported by Curinos as of 03/01/2023. National average is based on information regarding the top 50 banks (by deposit size) and may not include information from variations in regional pricing at such banks or information from products that may not be widely available to their customers. Rates were obtained from Curinos, who relies on the data from the banks it tracks and such information cannot be guaranteed. APYs are subject to change at any time.

² Federal law limits certain types of withdrawals and transfers from savings and money market accounts to a combined total of 6 per calendar month per account. There are no limits on ATM withdrawals or official checks mailed to you. To get an account with an unlimited number of transactions, consider opening a Discover Cashback Debit account. If you go over these limitations on more than an occasional basis, your account may be closed. See Section 11 of the Deposit Account Agreement for more details.

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