By Karen Petrou
Recently, I had an op-ed in the Financial Times arguing that negative rates make it even harder for moderate-income households to accumulate wealth. The reason, I said, is simple: when savings-deposit or similar rates are ultra-low or even negative in real terms, households that save get poorer and poorer both on their own and in comparison to wealthier households with more sophisticated financial-asset investments. This might seem irrefutable, but the article generated hundreds of comments. Many were positive but more than a few countered that lower-income households don’t have savings so savings rates don’t exacerbate economic inequality. To my mind, this is like saying that poor people are already thin so the fact that they don’t have enough food doesn’t matter.
Even as ultra-low rates robbed thrifty Americans of a critical safeguard, the wealthiest saw their stock holdings appreciate considerably; the S&P 500 grew 77% from the beginning of 2007 to the beginning of 2019. An equity investment of $1,000 in 2007 thus is worth $1,770. The same $1,000 put into a deposit earning a compound 0.50 over these same twelve years would have only $1,062 to show for it. Add in a 2% inflation rate and then this saver has only $856 left with which to chase vanishing hopes of financial resilience or, even better, wealth accumulation.
Even so, a majority of Americans are still trying their best to save what little they can. Indeed, America is a nation of savers. Middle-, moderate-, and lower-income U.S. households once were prodigious savers, doing so even though they also generally enjoyed a defined-benefit pension plan that, along with Social Security, protected retirement income. The personal savings rate was about 14% at the end of 1974. Thereafter, it dove to as low as 2.2% in the mid-2000s as the Depression-era generation gave way to households using home equity or other debt to fund consumption without, they thought, fear of a downturn. This was, after all, Greenspan’s “Great Moderation,” during which the “maestro” assured Americans that financial crises were just a distant memory.
In 2008, Americans learned the hard way how wrong this was. Now, personal savings rates are back up to around 8% even though small savings accounts are actually a money-losing proposition.
These are what economists call “precautionary savings.” Even in the face of accelerating economic inequality, U.S. households continue to save as much as they can. Median savings balances, which decreased during the financial crisis, have even been on the rise since 2013. Half of all households surveyed by the Fed in 2018 had a rainy-day account. These accounts cover at least three months of expenses and thus aren’t necessarily savings accounts for the future, but they are at least a cash reserve. Surprisingly, 8.6% of American households still held a savings bond in 2016. The median balance on these bonds is just $1,000 – clear evidence that these bonds are a refuge for lower-income households doing their best to put aside funds without the fees associated with the transaction accounts which for many are now their only cash asset.
The problem of low return on small savings thus isn’t about the profligate ways of Americans bent on heedless consumption. Families that try to save have a hard time finding excess funds to put aside given that middle-class income has been essentially flat in real terms since 2001 even as the cost of living and the need for debt catapulted ever higher. But whatever funds average households are able to save have earned them less than the rate of inflation for over ten years – a lost decade that stole the hope of financial security from a generation of U.S. millennials now with an average net worth of only $8,000. Their parents were able to save for the future; no one now who isn’t in at least the top ten percent is likely to do the same, stalwart savers though they still are.
Ultra-low interest rates are not an act of God and negative rates could well prove the devil’s handiwork. As we have shown in previous blog posts, Federal Reserve monetary policy is premised on the view that ultra-low rates reduce savings that lead to investment that leads to higher employment that leads to wage gains that advantage lower-income households. This is elitist thinking borne of models constructed when the majority of Americans were middle-class households for whom a quarter-point or two in reduced savings return was offset by more consumption-generating growth. Those days are long over because the U.S. has little left of its middle class.
It might well have made sense to drop rates close to zero in 2008 and at the height of the crisis. But, the Fed has kept rates close to or even below zero in real terms ever since even though the post-crisis recovery is the weakest on record since the Second World War. Dropping rates still farther will surely only make matters worse for the millions of Americans still putting their faith in saving today for security tomorrow. What will they do when they realize that return on these hard-earned savings is just one more broken promise?