No Shift Yet in Fed Policy That Punishes Savers

Earlier this week the Federal Reserve acknowledged in its own cautious way that the U.S. economic recovery is beginning to gain some traction.

Even so, the Fed hedged its bets at every turn: labor markets have improved, but unemployment remains high; consumers are spending more and businesses are investing again, but the housing market remains in a deep slump; core inflation rates are stable, but energy prices are rising; and so on.

No one was particularly surprised by the Fed-speak. The Fed has been wrong about a lot in recent years, so their caution is to be expected.

What surprised some, however, was that despite the improving data the Fed still seems to be holding fast to its stated policy of keeping interest rates at their historically low levels for at least another two-and-a-half years.

The growing optimism has revived an argument in favor of raising interest rates sooner rather than later in order to help those who have suffered most at the hands of the zero to 0.25% interest rate in place since December 2008: savers.

James Bullard, chief executive officer of the Federal Reserve Bank of St. Louis, said in a speech last month: “In particular, the lengthy near-zero rate policy punishes savers in the economy,” he said.

And Fed Chairman Ben Bernanke is well aware of the criticism of his near-zero strategy: “We recognize that during periods like this that savers aren't getting a good return,” he said during his last press conference in January, shortly after the Fed said interest rates would likely remain at their historic lows through late 2014.

And who are those savers? Retirees for the most part.

"The reality is that they’ve thrown Aunt Edna under the bus in an effort to stimulate the economy."

- Greg McBride,

In addition to their pensions, 401k programs and Social Security checks, many retirees derive a significant portion of their income from interest gained from savings accounts, certificates of deposit [CDs], money market funds and high quality bonds.

A direct response of the near-zero interest rate policy has been that the yields on all of those instruments have fallen to record lows. Consider that a typical one-year CD is now paying an average 0.71%, down from 2.65% at the end of 2008, according to

Consequently, income from these types of investments has fallen dramatically since the near-zero policy began over three years ago. According to the U.S. Department of Commerce, household interest income has fallen from $1.4 trillion annually in mid-2008 to below $1 trillion in late 2011, a decline of more than $400 billion per year.

That’s $400 billion a year that’s coming largely out of the bank accounts of retirees whose incomes are fixed even as rents and food and energy prices move higher.

“The reality is that they’ve thrown Aunt Edna under the bus in an effort to stimulate the economy, but what’s resulted has been a direct wealth transfer from retirees into the pockets of indebted borrowers,” said Greg McBride, senior financial analyst at

Also affected, but not in such large numbers, are people who were laid off during the 2008-2009 recession and forced to live off their savings. Their nest eggs are now generating far less in interest income than they would have had interest rates been higher.

The zero to 0.25 range was put in place at the height of the financial crisis. It was just one page out of a thick playbook of moves made by the Fed to ward off a total economic collapse.

But the consequences of low interest rates, unintended although not necessarily unexpected, have led some to question the fairness of the policy, to ask who has been rewarded and who has been punished.

The policy was intended in part to help people get out of debt. Specifically, to help millions of Americans refinance their mortgages at lower rates in an effort to stave off default and eventual foreclosure.

That aspect of the policy represents to some little more than a giveaway to people who purchased homes at the peak of the U.S. real estate bubble only to find out later they couldn’t afford them. Or worse, people who used their homes as ATMs, dipping into the equity again and again to finance lifestyles beyond their means.

All at the expense of retirees who are “seeing the lifestyles of their golden years crimped because of this policy of ultra-low interest rates,” said McBride. “These people have paid off their mortgages, they’ve saved their money and they’re not getting anything for it.”

The Fed isn’t likely to reconsider its position until well into 2012, if then. In 2010 and 2011 a pattern emerged in which the economy seemed to be perking up early in the year only to have it all come undone during the summer and fall. The Fed will wait awhile longer to make sure that pattern doesn’t extend to 2012.

Sensitive to charges that it missed signs of the 2008 crisis, the Fed is perhaps now being overly cautious. If in the second half of 2012 unemployment continues to fall and consumer spending and sentiment continues to rise, expect the language of the Fed to at least hint at rethinking the near zero interest rate policy.