A key driver for CD rates is the growth of loans to businesses and consumers, says Marty Mosby, managing director at Guggenheim Partners in Memphis, Tenn. Banks make a big portion of their profits by accepting money in deposits then lending it out at higher rates.
To attract deposits, banks offer returns to investors through CD yields. The greater the loan demand, the more deposits banks need and the higher the yield they must offer on those deposits.
How loan demand is crushing CD rates: The economy is still running behind, and business borrowing is sluggish in part because of a lack of consumer demand, Leggett says.
Every quarter, the Fed surveys bank loan officers on the demand for business loans compared to the previous quarter. The demand dropped in the third quarter 2006, and didn't start to improve again until the first quarter this year.
If businesses don't need to borrow to expand to meet customer demand, banks don't need money to lend to them and aren't willing to offer attractive yields to depositors to attract more funds, says Greg McBride, CFA, senior financial analyst with Bankrate.com.
"Until there's a balance between supply and demand, there's really not much impetus for rates to improve," McBride says.
What needs to change: In order for CD yields to increase appreciably, businesses must start borrowing again, Mosby says.