In Fed policy, the losers are people with savings
In Atlantic Media’s newly-launched financial vertical, Quartz, they have included a section entitled “low interest rates.” It caught my attention because I’ve never seen a financial publication that baked an assumption about the direction of interest rates into their format. That is like assuming oil or grain prices would always be low. A post, No, Ben Bernanke’s goal isn’t to reduce grandma to abject poverty, suggests that someone has to lose in executing monetary policy, and it is savers who must bear the most pain:
“But what about the savers?” That cry went up yet again when the US Federal Reserve promised, earlier this month, to keep interest rates at zero at least until 2015. The Fed, of course, was trying to perk up the American economy, but in monetary policy there are always winners and losers, and—with the Fed’s interest rate target having already been at or near zero for more than four years—the losers are people with savings. Yields on CDs (fixed-term deposit accounts) have collapsed. The yields on safe bond investments, like US Treasuries, is so low that after a few years of inflation, returns on those investments are almost certain to be worth less than what investors first put in.
Ben Bernanke, the Fed chairman, took the somewhat unusual step of acknowledging some of these concerns. In an attempt to assuage them, he pointed out, “low interest rates also support the value of many other assets that Americans own, such as homes and businesses large and small.”
Clearly the Federal Reserve has chosen sides. But the Fed has landed on the side of those who own assets. Artificially low interest rates punish the elderly and other low income households who live on fixed incomes and rely on the interest earned on their savings to supplement their Social Security checks. The most recent data from the IRS (2009) says that 15.8 million people, who earn between $0 and $30,000 a year, relied on $20.9 billion in interest-income to supplement their incomes. The average interest earned for this group in 2009 was $1,322 per year. You can see the breakout below. $1,322 goes a long way in a household earning less than $30,000 a year. But with interest at or near zero that income would be gone.
The data that Quartz uses from Stone and McCarthy misrepresents the number of households with transaction accounts, certificates of deposit and bonds (interest-bearing financial assets). Quartz (citing Stone and McCarthy) has the number at 22%, while the Federal Reserve data (Appendix Table 2A) says that 92% of households have transaction accounts. This is important because the Dodd-Frank financial reform bill changed Regulation Q, which had previously restricted banks supervised by the Fed from paying interest on demand deposit accounts (savings accounts).
What happens when an individual or family doesn’t earn any interest on their savings? Most have to reduce their spending or start using their savings.
The Federal Reserve has clearly made a poor choice in extending its zero-rate interest policy for the third year. The Fed has punished savers, who are the bedrock of a stable economy, to force money into other financial assets like the stock market, which can have massive volatility. Savers earn nothing and banks have little incentive in an uncertain economy to make loans at such low rates. The Fed’s policy has kept the economy at stall speed for several years, and unfortunately it will be the policy until 2015. But don’t cry for the low earners with their meager savings. Every battle has winners and losers, and someone has to stand on the front line.