What is a rate hike?
In one line: A rate hike is when a central bank raises its main interest rate, usually to cool spending and bring inflation down.
A simple example
Rates are moved in basis points. One basis point is 0.01%. So 25 basis points is a quarter of a percentage point.
Say the Fed's target range is 3.00% to 3.25%, and it hikes by 25 basis points. The new range is 3.25% to 3.50%.
Bigger moves happen when Inflation runs hot. In 2022 the Fed raised rates by 75 basis points at four meetings in a row.
Why central banks do it
A hike makes borrowing more expensive. That tends to slow spending and hiring, which takes pressure off prices. It's the main tool for fighting inflation.
The cost is that it can slow the economy too much. That's why a Central bank usually hikes in small steps and watches the data in between.
How markets often react
There's no fixed reaction, but common patterns are:
- The currency can strengthen, as higher rates attract money.
- Bond prices fall and yields rise, as new bonds pay more.
- Stocks, especially fast-growing companies, can come under pressure.
The surprise matters most. A fully expected hike can barely move prices. A "hawkish" tone (see Hawkish and dovish) about more hikes ahead can move them a lot.
Our guide on how interest rates affect stocks traces the chain.
A common mistake
Thinking "a hike is always bad for stocks." If markets expected 50 basis points and got 25, stocks might rally. The reaction depends on what was priced in and what the central bank says about next time.
Rate decisions are on the calendar. Know the date and time before you trade that day. For the US, it's 2:00 pm ET on FOMC days.
Questions
Why does a rate hike lower inflation?
Borrowing costs more, so people and companies spend less. With less demand, prices tend to rise more slowly.
How much is a typical rate hike?
Often 25 basis points (0.25 point). Larger moves of 50 or 75 happen when inflation is high.
Does a rate hike make the dollar go up?
It often supports the dollar, but not always. It depends on what was expected and what other central banks are doing.
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