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CD investors: Don’t expect Fed help

By Claes Bell ·
Monday, April 18, 2011
Posted: 2 pm ET

Short-term CD rates have been in the dumps since the Fed frantically cut its key federal funds rate to nearly zero to try and stop the economic free fall of late 2008.

Savers would probably love to see the Fed reverse that trend, but with unemployment over 9 percent and the recovery still pretty sluggish, the Fed hasn't shown any willingness to move rates higher.

That's why it was really interesting that this month the European Central Bank elected to raise their equivalent to the federal funds rate, called the marginal lending facility, by a quarter percentage point, the first such increase since July 2008. Usually, the federal funds rate and the ECB's marginal lending facility rate are pretty highly correlated; that is, they move pretty closely in sync.

European Central Bank vs Fed rates

European Central Bank vs Fed rates

As you can see on the chart (at right), since 1999, ECB tends to lag the Fed, and never seems to cut its rates quite as aggressively, but the rate trends look pretty darn similar. So does an ECB rate hike foretell a similar move by the Fed, giving hope to CD investors everywhere that short-term CD rates won't be laughably low forever?

In a word, no. This rate hike represents a serious divergence between Fed policy and ECB policy, says Greg McBride, CFA, Bankrate's senior financial analyst, and it's not likely to be repeated here for some time:

I don't think the ECB has any bearing on the Fed right now. They are operating under fundamentally different schools of thought at present.

The ECB is focused on price stability to the risk of the economic recovery. The Fed is focused on the economic recovery to the risk of price stability. Each has dug in their respective heels accordingly.

Even now that the ECB has increased rates, the Fed seems undeterred despite the declining dollar, the subsequent increase in dollar-priced commodities and the resulting effect on inflation.

So there you have it. While savers in Europe will be getting some relief in the form of higher deposit rates, American savers will have to suffer lower CD rates for a while longer, it seems.

I think the Fed's commitment to easy monetary policy may be good news for the U.S. economy as a whole, which is growing at a faster clip than the euro zone's economy thanks in part to more expansionary monetary policy. But it's almost certainly bad news for CD investors and savers in general, because they'll continue to see rock-bottom deposit rates on short-term products as long as the Fed sticks to its expansionary guns.

What do you think? Should the Fed follow the ECB and hike rates?

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J h
April 19, 2011 at 8:36 pm

From my school i was taught that that fed will lower rates to make people spend money not the other way around.

Yes the savers have lower rates but on the other hands the spenders ( the ones that are keeping the wheel turning) are saving a lot of money on refi'swhich is then being dumped back into the economy.

For those who think the banks are not lending, you are wrong.

Now the savers just have to actually do something with thier money to make it work for them. Invest in something. Rental property, the market, anything. As the old saying goes no risk no reward.

j christopher
April 19, 2011 at 7:39 am

I agree with Sonia. Home loans are at 4% but the banks are hardly loaning and most people are holding onto their cars longer. I think the Fed has painted itself into a corner but will stubbornly keep interest rates low since next year's an election year.

Sonia Morales
April 18, 2011 at 8:59 pm

I truly believe that the Fed should raise the Fed funds rate. There are inflationary pressures (gas prices, food prices, etc.) that should in turn make the Fed raise their rate. In this manner, people would have more money to actually go out and spend. What deposits are making now is peanuts. How are people supposed to spend if there is no incentive on their money? Plus we have seen that the real estate market has not improved a whole lot even though mortgage rates were at an all time low. This was one of the reasons why the Fed lowered the Fed funds rate in order to allow for lower mortgage rates and car rates. And even car loans are not growing drastically because people are sticking to their old cars. So the Fed definitely needs to make a move sooner rather than later.