Why Interest Rates on Savings Accounts Are Still So Low

Episode Summary

Executive Summary: The episode explains why U.S. bank deposit rates remain far below Fed policy rates, focusing on deposit stickiness, banks’ pricing power, and how post-crisis regulation, QE, and QT have reshaped bank funding. Guest Joe Abate argues that deposit betas start low and rise later in hiking cycles, with larger banks and non-price services helping keep rates depressed.

Main Topics: Why deposit rates lag Fed hikes (Priority: 5/5): The hosts open with the surprising gap between the Fed funds rate and average bank APYs, asking why banks do not quickly pass through rate increases to savers. Deposit beta and the competitive process (Priority: 5/5): Joe Abate explains deposit beta as the share of Fed rate changes passed to depositors, noting it typically starts low and rises as banks compete more aggressively for funding later in a tightening cycle. Stickiness from services, switching costs, and network effects (Priority: 4/5): Banks maintain pricing power because deposits are convenient, insured, and difficult to move; app quality, payroll links, payment integrations, and institutional service relationships all make balances sticky. QE, post-crisis regulation, and the shift toward retail deposits (Priority: 5/5): After the financial crisis, banks moved away from flight-prone wholesale funding toward more stable retail deposits due to regulatory changes and the liquidity created by QE. QT, reserve distribution, and small-bank pressure (Priority: 4/5): Quantitative tightening reduces reserves and increases funding pressure, but the effect is uneven: smaller banks lose deposits faster and face greater competition than large banks. Alternatives to bank deposits (Priority: 3/5): Listeners are told that money market funds, bills, and prime funds can offer much better yields than deposits, though money may be migrating to higher-yielding substitutes rather than directly into government-only funds.

Key Arguments: Average bank deposit yields are extremely low relative to policy rates, so banks are not mechanically transmitting Fed hikes to retail savers. Banks have pricing power because deposits offer liquidity, safety, and insurance, and there are few perfect substitutes. Deposit betas are cyclical: they begin near 10% early in a hiking cycle and rise to 75-80% later, with roughly 35-40% pass-through over an entire cycle. Bank competition increasingly happens through non-price mechanisms such as app quality, services, and bundled business relationships rather than only explicit interest rates. Post-2008 regulation pushed banks toward more stable retail deposit funding and away from wholesale instruments like repo and commercial paper. QE increased aggregate deposits and reserves, making banks less eager to bid aggressively for deposits at the start of tightening cycles. QT reduces reserves and can force banks to compete harder for deposits, but the pressure is uneven across institutions because reserve and deposit balances are concentrated at large banks. Small banks are more vulnerable to deposit outflows and reserve scarcity than large domestic banks, which often start with more cushion. Retail and institutional depositors do respond to higher yields, but they may move into money market funds, prime funds, or Treasury bills instead of simply shifting among bank accounts.

Data Points: Average annual percentage yield on U.S. bank accounts: 0.23% - Cited from Bankrate as the average APY savers receive on bank accounts. Fed benchmark rate range: 4.5% to 4.75% - Referenced as the prevailing policy rate level compared with bank deposit rates. Deposit beta in the last tightening cycle: 35% to 40% - Joe Abate says this was the overall share of Fed hikes passed through to deposits over the cycle. Deposit beta early in the cycle: about 10% - Pass-through was much lower at the start of a tightening cycle. Deposit beta by the end of the cycle: 75% to 80% - Pass-through rose sharply as banks competed more aggressively for funding. Money market fund yields: about 4% or more - Used to illustrate how much more savers can earn compared with bank deposits. Reserve/cash-to-total-assets threshold: 8% - Joe Abate describes this as a rough line between ample and scarce reserves for banks. Current aggregate reserve ratio: around 9% - He says the system overall is still above the scarcity threshold. Domestic banks reserve ratio: around 10.5% - Large domestic banks appear well above the scarce-reserve threshold. Small banks reserve ratio: around 6% - Smaller banks are much closer to scarcity and face more pressure. Approximate level of ample reserves: $2.7 trillion - Joe Abate offers this as a rough estimate of where reserves might be ample. Pre-financial-crisis maturity mismatch example: 30-year mortgages funded overnight in repo - Illustrates why wholesale funding was considered risky before the crisis. Podcast promo format: five minutes or less - The Stock Movers ad describes its short report length. Bloomberg coverage scale: 3,000 journalists and analysts - Mentioned in the podcast advertisement promoting Bloomberg’s reporting depth.

Pivotal Quotes: "the fundamental problem with bank deposit rates is that there's so many different types of deposits" — Joe Abate: Introduces why a single simple deposit-rate comparison is hard to define. "deposit rates in a rising rate environment go up like a feather and in a interest rate cutting environment where the Fed is easing policy, they sink like a stone" — Joe Abate: Summarizes the asymmetry in how banks adjust deposit rates across rate cycles. "banks are able to pay people, especially institutions with services" — Joe Abate: Explains how banks compete through non-price services rather than just explicit interest rates.

Implications: Savers may need to shop beyond traditional deposits to capture market rates, while banks—especially smaller ones—face tighter funding pressure as QT progresses. For monetary policy, uneven deposit pass-through means rate hikes transmit imperfectly and more slowly than headline Fed changes suggest.