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Debt drama could hit CD rates

By Claes Bell, CFA ·
Monday, May 16, 2011
Posted: 3 pm ET

There's a high-stakes game of chicken going on in Washington, D.C., over extending the debt ceiling, and CD rates could be just one more casualty if things go too far.

If you're just tuning in to the debt ceiling drama, the debt ceiling is the total amount of outstanding debt the federal government is allowed to have at any given time. In normal times, the debt ceiling is extended with plenty of time to prevent the U.S. from defaulting on its debt obligations to Treasury investors, albeit with a good deal of anti-deficit posturing from politicians.

But this time, Congress has refused to act, and today the federal government hit the debt ceiling, forcing the Treasury to temporarily stop contributions to some government worker retirement funds in order to keep funding the government. Things will get much worse around Aug. 2, when the federal government runs out of money to shuffle around and has to stop paying interest on outstanding Treasury debt.

If the debt ceiling isn't raised soon, CD investors could begin feeling the squeeze, Bankrate's senior financial analyst, Greg McBride, said in an email. That's because the flow of Treasuries coming out of the U.S. government will stop, forcing investors to scramble for the remaining outstanding Treasuries.

"There could be scarcity premium attached to Treasuries, which would actually push yields lower, and those of CDs as well," says Greg McBride.

Because they're both backed by the full faith and credit of the U.S. government and thus compete for safety-seeking investors' dollars, CD rates and Treasury yields have traditionally been linked.

If a default does happen, says McBride, the pain of today's low rates will likely get even worse for CD investors, because of the massive disruption to the global economy a default would likely cause.

"In the case of an actual default, then the flow of credit may well come to a screeching halt, too. If so, there's no demand for CDs," McBride says.

In other words, if banks don't need your money to lend out because the economy is cratering, they won't offer you an attractive CD rate to get it.

And then there's the NIM. No, I'm not talking about that animated film about super-intelligent rats fondly remembered by many children of the '80s. In the banking industry, NIM is short for net interest margins, or the difference between the interest banks earn on the money they lend out and the interest they pay to depositors and others, relative to their money-making assets.

When NIM is low, as it is now, banks aren't making much money on their lending operations, and they're not in a position to raise CD rates even if they wanted to compete with falling Treasury yields, Dan Geller, executive vice president at Market Rates Insight in San Anselmo, Calif., said in an email.

"In the current environment, regardless of the debt level, T-bills rates are not going to impact CD rates directly because banks and credit unions are operating on a very slim NIM due to the soft lending market," Geller says.

So if you're thinking a rollback of government spending forced by a debt ceiling showdown might result in higher CD rates, you might want to reconsider that idea.

"This game of debt ceiling chicken is like waving around a loaded gun," says McBride. "It can't end well, and the best case is that nothing bad happens."

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July 14, 2011 at 5:01 pm

Cash is trash. What a wonderful life it must be for the bankers. They keep getting fiat from the government and put it in hard assets and make tons of money because the demand for these assets is unabated due to the low CD rates. One bank should give like 6% and money would come into the bank so fast the computer would freeze. People liked when money was money, not some form of tax on people who don't spend it as soon as they get it. You would think Rich people, having most of the money, would prefer honest taxation rather than make a game of it to see how long they can avoid cash and who can make the most going back into at the bottom. I hope BB raises Gold margin rates. Put a real dose of reality that it is nothing but fiat propping high gold prices up, on margin. Increase the margin, kill gold and oil. Obama can really punish the tea baggers for saying they should get a tax cut because we are in debt...LOL GOod one!!!

July 11, 2011 at 11:53 am

banks are paying anything on CD rates. You are literally just parking your money and that's it. Banks charge you to close these accounts too.

blues boy
June 09, 2011 at 4:39 pm

I hate banks and bankers if you save you get punished. these dopes ruined this economy . when ask for a little sacrifice they wouldn't give an inch they couldn't make it on 500000 a year the argument was you couldn't get good quality ceo's GIVE me250000 I'll ruin any bank just as well . I'm sick of there whining about regulations if they weren't so greedy no regs would be needed.

R Tober
May 19, 2011 at 12:38 pm

It would be interesting to know what is different now about Fed policy and CD rates as compared to when Jimmy Carter was in office and double digit CD rates were available. Is it that this time the Fed is printing money and quantitaive easing is in effect and during the Carter administration they weren't?

May 17, 2011 at 12:33 pm

Debt Drama is huge now and days, everywhere you go just seems like its the talk to have.

Savings is a must, but CD's low interest rates is not the way to go. People need immediate action with the greatest impact! Some people have even hit the brink of willing to sacrifice there good credit to be debt free.

Whats out there? A friend of mine used a firm called Debt Free League, sure they help her out of debt and with a savings, but is debt settling a concrete option?

I've done my research on the settlement industry and they seem to be under fire, but in all honesty nevertheless its an option for consumers because lord knows there just isn't more than a handful.