Bank Customers Lose Real Money

You worked hard, saved money, and reduced or eliminated debt. You've been conservative, preferring the stability and security of bank deposits versus the gyrations of the market. Now, after forty years of toil and delayed gratification, you're ready for retirement.

If this were 2006, things would be good. The Fed Funds Rate stood at 5.25%, and inflation in check at 2.5%. This means you could get roughly 2.75% real interest from your bank savings account. Your money grew.

Then, boom, the 2008 financial crisis. The Fed immediately dropped Fed Funds to a range of 0% - 0.25%. And at that time, inflation was nearly zero (0.1%), so your real interest was still positive. And since it was a financial crisis, no worries. Things would recover. And thankfully since you were nearing retirement your home wasn't leveraged to the hilt and then some. Sure, your home value declined, but what does that mean to someone with little to no mortgage and isn't in the market to sell? 

Heck, maybe there'll be a reassessment and your real estate taxes will go down.

Taxes go down? See that. I made a funny.

Retiree: That's Not So Funny

To the retiree that prefers the safe haven of FDIC insured deposits held at the local bank that lends it out locally, this is a serious issue. If we use the Fed Funds rate as a proxy for what a saver earns at their bank, the chart below is alarming. 

Source: US Inflation Rate by Year: 1929 - 2023 (thebalance.com)

Things looked good as we entered the 21st century. Sure inflation was relatively high, at least above the Fed's target rate of 2%, at 3.4%. But the Fed Funds rate, as proxy for savings, was 6.5%, a full 3.1% real return. (Note: I checked a few of our strategic planning peer groups to see their cost of deposits at June 30, 2021. One peer average was 36 basis points and the other 37. Although this is higher than the current top guideline of Fed Funds rate of 25 basis points, I feel comfortable using it as a proxy for bank savings rates. Eleven basis points difference to the peer median... c'mon.)

If a saver put $1,000 in a bank savings account on January 1, 2009, less than one month after the Fed dropped the Fed Funds rate to 0%-0.25%, and kept it in that savings account, they would have $1,091 at the end of 2020. That same $1,000, invested in the S&P 500 Index for the same period, would be worth $4,318.

Worse, in 14 of the 21 years from 2000 through 2020, the inflation rate has been higher than the Fed Funds rate. Meaning keeping your money in cash, or at your bank, caused a decrease in your depositors' buying power. 

This caused savers to flee to higher earning assets, driving up the value of those assets. This phenomenon, combined with the Fed increasing its balance sheet from $1 trillion to near $9 trillion since the financial crisis, has kept bond yields low and their prices high. Forcing savers into equities, which has driven markets up. I can't imagine those that seek a safe haven will go into crypto currencies. But never say never.

This is a great environment for borrowers and spenders. Not so much for savers and those that avoid leverage. 

What Say You, Mr. Powell?

And I'm not so sure policy makers have the savers' best interests in mind. The current inflation rate at this writing was 5.3%, well above the Fed's 2% target. Yet they continue to signal that they will keep the Fed Funds rate where it is until 2023. The two Board Governor hawks that are calling to do it sooner are leaving. 

It benefits the federal government to keep rates artificially low because we have $28T of debt to service. That's with a "T". I'm hopeful the Fed makes decisions to promote maximum employment, stable prices, and moderate long-term interest rates. And ignores politician's calls to continue to print money to keep bond yields low so they can keep swiping the national credit card.

But I'm becoming increasingly skeptical that the Fed is remaining faithful to its mission. So as an industry, we might have to solve for the diminishing value of our customers' deposits. It could be part of our higher purpose (Increase economic well-being of savers).

If you have thoughts on solutions, I would love to hear them.

~ Jeff

Please consider reading my book: Squared Away-How Can Bankers Succeed as Economic First Responders. 

Ten percent of author royalties go to K9sForWarriors.org, who work to bring down the suicide rate among our veterans. 

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Community Banks and Our Retirement Problem

How can your financial institution stand out in a crowded marketplace? Why don't we play a critical role in solving the nation's retirement problem?

I recently read a report by the US Senate Committee on Health, Education, Labor and Pensions titled The Retirement Crisis and a Plan to Solve It, led by Senator Tom Harkin (D: Iowa). It called for the establishment of USA Retirement Funds to re-establish pension funds as part of the three-legged stool of social security, pension, and personal savings.

Although it calls for USA Retirement Funds to be private, it used the typical keywords of "transparency, accountability, etc." that reads... government controlled or heavily regulated. The current methods proposed to fix social security such as increase retirement ages, change cost of living calculations, make wealthy people subsidize it, should give us pause that putting more resources and control in the hands of government flies in the face of our unique American independent streak. But how do we overcome the retirement problem?

First, I agree we have a problem. If a 35 year old earns the average household income in the country, then they will need over $1 million in savings to maintain their standard of living for a 25 year retirement (see table). This equates to saving $17,000 per year, every year, until this family reaches 67. I think this family needs a trusted advisor to tell them this, and map their path to get to their hoped-for retirement.

So how can this family save $17,000 of a $50,000 annual income? Well, part of it can be accomplished through the now-typical employer 401(k) plan, where the employer matches some form of employee savings. 

Also, Uncle Sam picks up part of the tab. The employee can save all of the needed savings tax deferred. If the family is in the 15% marginal rate, then Uncle Sam picks up the equivalent of 15% of those contributions.

The Harkin's report identified four principles of reform:

1. The Retirement System Should Be Universal and Automatic. I agree it should be automatic. Universal sounds like Big Brother is telling you what to do. This is a continuing theme with the US Government... Americans are too stupid to care for themselves and need us (i.e. the Government). 

2. The Retirement System Should Give People Certainty. I think peace of mind would be better than certainty. Many great US companies went down the tubes as a result of defined benefit pension plans.

3. Retirement is Shared Responsibility. The US Government already shares with Social Security. The only other sharing (i.e. controlling) they should do is enforce laws against the charlatans that plague the investment community.

4. Retirement Assets Should Be Pooled and Professionally Managed. Well, we call that mutual funds, don't we? But I think Harkins' group is suggesting more centralized control in defining "professionally managed".

I don't disagree with the retirement challenge. I also think saving should be automatic. But I disagree with greater control of a national pension system in Washington. Here is where I think community banks, banded together through associations such as the ABA or ICBA, can play a critical role in solving our problem.

There are countless examples of organizations coming together for a cause. The Rotary Foundation strives to eradicate polio. Feed the Children, well, is self explanatory. Why can't community financial institutions band together to help customers prepare for retirement?

I'm not talking about our frequently half-hearted attempt at retail investment sales. I'm talking about a national program, established through our associations, that vets money managers like associations now vet "approved" vendors, and establishes low cost investment option packages that customers can select based on their risk appetite.

They can range in risk from mostly all stock funds, to mostly all bank CDs. The key will be to automatically move the money monthly from customers checking account into a tax advantaged IRA-type account. I'm not suggesting receiving no compensation for it. But keep fees low, such as 25-50 bps. Negotiations with money managers can partially offset these fees, since nationally community banks will be placing large sums of money into these funds. The money will be portable, and owned by customers, and not the federal government. I think we can establish a national program that meets the Senate committee's four principles, without it morphing into another federal bureaucracy to be tinkered with by future elected officials, as is the case with the Social Security system.

Imagine, a middle class family, through their local financial institution, putting away $250/month into such a program, in addition to their 401(k) plans at work. We can play a positive role in helping our customers enjoy their retirement years, and achieve piece of mind.

Should we band together and embrace the retirement cause?

~ Jeff