Published October 05, 2011
Anyone who has a checking account and is older than 25 may feel a sense of frustration at today's low yields. Longer memories might recall when check-writing privileges came with an interest rate of 5% or better on the account balance.
So why are rates today so low, even on checking accounts that might be referred to as "high yield"?
The answer lies in the federal government's monetary policy, according to Chris DesBarres, co-owner of Help Unlimited, a daily money management service in Winston-Salem, N.C.
"The Federal Reserve, in order to stimulate the economy, has been keeping what's known as the federal funds rate low," DesBarres says.
This rate at which banks lend balances at the Federal Reserve to other institutions overnight is the prime driver of all other interest rates. "It's the basis for everything," he says.
The Fed doesn't set the rates consumers earn on checking accounts or other financial products. Instead, the Fed sets several bank interest rates, which then influence the rates banks set for consumers. The federal funds rate has been at less than 0.25% since December 2008, keeping bank rates in the basement. That's good for borrowers and bad for savers.
Because the fault of low rates lies not with the banks themselves but in a higher sphere, today's low rates on checking accounts exist not just at a handful of banking institutions but at all of them, according to Todd Sandler, head of product strategy at ING Direct, an online banking institution in Wilmington, Del.
"This is not a category issue or product issue, but an issue for the industry at large," he says.
Given the environment of record-low interest rates, it is no surprise to see the average yield on interest checking accounts decline for a fifth consecutive year in Bankrate's 2011 Checking Account Survey, falling from 0.1% to a new low of 0.08%.
Rock-bottom rates mean "high yield" is only a relative term. Indeed, financial planners say a rate as low as 1% -- or even anything higher than zero -- could be considered high on a checking account.
The near-zero rates might explain, at least in part, why financial institutions prefer not to use the term "high yield," referring instead to trade names that don't imply any sort of interest bonus. For instance, Wells Fargo calls its high-balance checking account a "PMA Package" for portfolio management account. At ING Direct, a checking account that earns interest is called "Electric Orange" checking.
Justin Krane, president of Krane Financial Solutions in Los Angeles, says the term high yield is misused in this context.
"'High interest' would be better," he says, because "in investing, 'high yield' means junk bonds."
Financial experts generally believe the Fed will have to raise its bank rates sooner or later. The big question is when that will happen.
Sandler says higher rates for consumers depend on the federal funds rate. "Until we see a climb in the federal interest rates, we're not really going to see any movement in interest rates for consumer financial products," he says.
DesBarres advises consumers to watch two economic indicators that could help predict a Fed rate increase: the U.S. gross domestic product, or GDP, and the inflation rate.
"If you see those two indicators going up, that will be a signal that the Fed is likely to start raising rates," he says.