It's hard not to find the current savings situation irritating. Banks broke the financial system taking on excessive risk and received a taxpayer-funded bailout. Now, some have been cleared to increase dividends to shareholders, despite lingering questions about their ability to weather adversity. Meanwhile, depositors are still paid very close to nothing due to the ongoing economic uncertainty.
But that's the world we live in. And banks are bound by the Federal Reserve's monetary policy when it comes to paying interest on deposits and setting CD rates. The Fed sets the federal funds rate and banks pay interest based on that benchmark level. They also charge interest on loans based on that level as well.
The Fed's job is to establish dependable expectations around the level of inflation and to encourage employment through economic growth.
Most people understand that on an intellectual level but, again, it's difficult to not be irritated, if not angry.
I recently sent out a query asking how Fed policy has affected individuals in regard to CD rates. Here's what some finance professionals had to say.
Bruce Specter, private wealth manager and client relations officer at Universal Value Advisors says:
Aside from being in the mix every day because of my profession, I am also a consumer and face the same challenges our clients do, everyday!
Low interest rates have been and always will be a mixed blessing. They're great for me as a consumer, as it allows our family to use the lower cost of credit to maximize cash flow. As homeowners with investment property, it allows us to reduce costs of borrowing on the biggest expense on our books.
The flip side has brought safe investment income to a screeching halt! Bond funds, money markets, CDs are all safe. Unfortunately, safe today means little yield (little income or growth). In addition, money market funds are perceived to be guaranteed. They are not. We have seen the buck broken (a dollar not being worth a dollar) and we're facing that dire situation again.
Combine this with stagflation, where what we own is worth less and things we need continue to rise in cost (have you noticed the continued downsizing of packaging...prices may be stable, but you are getting a lot less for your money. Next, the new dozen will be 10!)
The struggle will continue to be on the back of the masses. History teaches nothing!
Terry Connelly, dean emeritus of the Ageno School of Business at Golden Gate University, San Francisco, says:
I am an experienced investment banking executive and long-term business school dean and I have been trying to teach my young teenage daughters about saving for the future; but when I give them a sense of what is going on in the financial markets generally, they want to take their savings out of the bank and join me in buying some stocks that bring a better potential for return. They get it.
Similarly, I am on the board of a doctoral-level university and we have struggled for years about where to keep our balances prudently because of the paltry returns we get on traditional safe investments (we use laddered government and corporate bond structures).
That said, the low level of return resulted after the Fed and others took the appropriate response to a financial meltdown caused by credit excesses and imbalances. In short, we were in a world where the price of almost everything was artificially inflated by the credit bubble.
These days, just about everything is being re-priced down. Thus far, about the only exceptions are health care and college tuition, but at least the latter is coming under some signs of pressure. So one must be patient with low rates of returns on lower-risk deposits, and like my daughters, learn to love dividend stocks!
Elliott Orsillo, portfolio manager at Season Investments had this to say:
The Fed's interest rate policy is forcing "grandma to subsidize Goldman," to steal a phrase I heard a couple months ago. Unfortunately, it may be a necessary evil to keep the economy from slipping into deflation and mimicking Japan post-1980's.
At the end of the day, the decision to punish savers in order to manufacture inflation and stave off deflation is pro-growth which should be popular with a younger demographic and unpopular with an older demographic.
All that to say, no one likes getting zero percent on their savings and CDs!
Ilene Davis, a Certified Financial Planner commented on the potential pitfalls of lowering savers' incomes:
Sad part is that many of those who may benefit from being able to borrow at lower rates may see their income or jobs cut because those who are are earning those low rates on their savings have less to spend.
Someone with a $100,000 CD at 3 percent gets $3,000 a year in interest. Ignoring taxes for now, that would be $250 a month to spend eating out, travelling, buying clothes and so on.
When rates are only .5 percent (or less), then the income is only $500 a year. Odds are those investors will cut back on eating out, buying non-essentials, ultimately making those who benefit from low rates net out about the same. It's lower interest, but also lower income.
Next week we'll hear from the savers. How has Fed policy impacted you?
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