Fed to Bank Savers: Stop Saving

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The Federal Reserve’s announcement that it will funnel $600 billion into a massive government bond purchase (to spark more consumer lending and spending activity) has distinct winners and losers.

With even lower interest rates on the way, mortgage borrowers are big winners. But bank interest rate savers have a bone to pick with Federal Reserve Chairman Ben Bernanke – they’re getting the short end of the stick, again. Here’s a look at the damage.

Within hours of the news that the Fed would engage in what economists call “quantitative easing” for the second time in 18 months (more formally known as “QE II”), the backlash began.

One of the primary critics is one of the Fed’s own officials, economist Kevin Klieson of the federal Bank of St. Louis. In a “pros-and-cons” look at the Fed’s recent history of tamping down interest to near 0%, Klieson said that in response to the onset of the Great Recession, the Federal Reserve was quick to pull the lever on lower rates.

“The FOMC reduced its interest rate target to near zero in December 2008 and then signaled its intention to maintain a low-interest rate environment for an 'extended period,'" he writes in a recent white paper.

Klieson admits that the Federal Reserve “initially underestimated the severity of the recession” and maybe that’s why the Fed rushed to lower interest rates.

But that initial aggressiveness, and the sustained campaign to keep rates low that followed, really hit bank savers in the pocketbook.

“Low interest rates provide a powerful incentive to spend rather than save,” he explained. “In the short-term, this may not matter much, but over a longer period of time, low interest rates penalize savers and those who rely heavily on interest income. Since peaking at $1.33 trillion in the third quarter of 2008, personal interest income has declined by $128 billion, or 9.6%.”

Yes, you read that correctly. According to Klieson, the Fed’s campaign to keep interest rates at historic lows has cost bank rate savers $128 billion. Meanwhile, big banks reaped the benefits of the $700 billion Troubled Asset Relief Program (TARP) from U.S. taxpayers – the same taxpayers the banks are now penalizing with low savings rates.

The Fed’s spin on this is hardly surprising, nor is it anything new. Through the $600 billion earmarked for QE II over the next nine months, the Fed has basically extended banks another lifeline of roughly $75 billion per month. But that’s a necessary investment in Bernanke’s mind. It’s money that banks can use to hire employees and lend money – both obvious goals of government economic policy makers.

But the Fed tried this before during QE I, when$1.3 trillion was airdropped into the U.S. bond market in 2009 and early 2010. That “stimulus” didn’t drive employment up, nor did it significantly boost bank lending. But as Klieson points out, it did drive money market rates below 1.00%.

That’s the one factor bank investors can count on with QE II: No guarantees on employment and no guarantees on stronger credit and lending.

But low rates? Once again, they’re guaranteed. And so is the wrath of the U.S. bank saver.

—For the best rates on loans, bank accounts and credit cards, enter your ZIP code at BankingMyWay.com.

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