What are savers supposed to do in a world of continual interest-rate cuts?

Early this morning saw yet another official interest-rate cut from a central bank. If we skip to a world down under we saw this from the Reserve Bank of Australia.

At its meeting today, the Board decided to lower the cash rate by 25 basis points to 2.25 per cent, effective 4 February 2015.

So even Australia which has benefited from the resources based boom has joined the club which reduces interest-rates to all-time lows. I doubt it will be their last move in what is also a familiar theme and trend of these times. Also I note that it is not just short-term official interest rates which have gone down.

Financial conditions are very accommodative globally, with long-term borrowing rates for several major sovereigns reaching new all-time lows over recent months……. overall financing costs for creditworthy borrowers remain remarkably low.

This morning the ten-year bond yield in Australia has fallen to a record low of 2.36% as a bass line is added to the drumbeat. One of the issues here is that it is as we have discussed before become something of a South China Territories but even this has only protected it from the cold winds of interest-rate cuts for a period.

What about Canada?

In what is looking like something of a post colonial theme it was only yesterday that I was discussing the recent interest-rate cut in Canada.

The Bank of Canada today announced that it is lowering its target for the overnight rate by one-quarter of one percentage point to 3/4 per cent.

In another development the interest-rate which comes from a low-level of only 1% was in spite of the fact that the official forecast was for growth.

The oil price shock is occurring against a backdrop of solid and more broadly-based growth in Canada in recent quarters.

So even a relatively strong economy-so far anyway- only had an interest-rate peak of 1%?

Sweden

A new tactic in the interest-rate elimination wars came from the Riksbank of Sweden last year.

The Board is cutting the repo rate by 0.25 percentage points to zero per cent, and making a significant downward revision to the repo-rate path.

So we saw the Riksbank literally begin a Zero Interest-Rate Policy or ZIRP as its rate was cut to 0% but take a look at the rationale!

In Sweden, economic activity is continuing to improve, primarily driven by good growth in household consumption and housing investment……….. The labour market will continue to strengthen in the years ahead and there will be a clear fall in unemployment.

You are permitted an Eh? At this point. Some improving economic activity combined with an improving labour market makes a case for an interest-rate cut? It used to be the foundations for an interest-rate rise as savers feel a chill in their bones at the implications of this.

New Zealand

If we continual the post colonial link we see that there was a case for another interest-rate rise in New Zealand.

Annual economic growth in New Zealand is above 3 percent, supported by rising construction activity and household incomes. The housing market is showing signs of picking up, particularly in Auckland.

But it did not happen partly because of all the interest-rate cuts elsewhere and fears of a currency appreciation. This of course begs the question of when an interest-rate rise can be made these days?

Negative interest-rates

These are increasing prevalent especially around the Euro area as linked economies try not to be affected by its travails and groundwash. I have analysed the way that the Swiss National Bank planned to cut to -0.25% and ended up cutting to-0.75% as the former proved insufficient. Next came Denmark’s Nationalbanken which learned nothing from Switzerland and ended up pretty much copy-catting it as it did this.

Effective from 30 January 2015, Danmarks Nationalbank’s interest rate on certificates of deposit is reduced by 0.15 percentage point to -0.50 per cent

At the same time we have seen the development and spread of negative bond yields which has been driven at least partly by negative official rates. Banks have been trying to avoid the negative rates at the central bank and so they have bought short-dated bonds instead which has often pushed yields negative there too. Danish and Swiss yields are negative quite a long way up their yield curves which leaves a saver with fewer and fewer alternatives.

Also so far I have not pointed out that the European Central Bank went over to the dark side a while ago and has an official interest-rate of -0.2%. It also now has a litany of countries with negative bond yields and some of these are no longer so short-term as in Germany even the five-year maturity is negative.

What about the UK?

We do not have negative interest-rates but we have had an “emergency” Base Rate of 0.5% for what feels like “forever,ever,ever” as Taylor Swift put it but is in fact since 2008. What we have had is downwards pressure on savings rates from the policies of the Bank of England as it has operated several implicit bank bailout policies. Whilst the largest policy was the £375 billion of QE (Quantitative Easing) it was the Funding for Lending Scheme which provided banks with cheap funding reducing their reliance on savers to provide them with liquidity and cash. So from the summer of 2012 even more downwards pressure was applied to savings rates as we are reminded of the words of the hapless Bank of England Deputy Governor Charlie Bean. From Channel 4.

I think it needs to be said that savers shouldn’t necessarily expect to be able to live just off their income in times when interest rates are low. It may make sense for them to eat into their capital a bit.

In a move that makes him now seem a right Charlie he offered hope for the future and please remember this was September 2010!

It’s very much swings and roundabouts. At the current juncture, savers might be suffering as a result of bank rate being at low levels but there will be times in the future as there have been times in the past when they will be doing very well out of the fact that interest rates are at a relatively high level and I think that’s something that savers should bear in mind.

Savers may well be wondering when the next roundabout is?! By contrast Mr.Bean did not have to dip into his pension which rose and rose to an index-linked £119,200 per annum.

What about UK savings rates?

Swanlow Park have produced some annual averages which sing along to Alicia Keys.

I, I, I, I’m fallin’
I, I, I, I’m fallin’
Fall

I keep on
Fallin’

In 2008 they calculated the average rate as 5.09%, these following the Base Rate cuts and we saw around 2.8% in 2010-12. But following the Funding for (Mortgage) Lending Scheme we saw 1.75% in 2013 and 1.48% in 2014 as the new push from the Bank of England impacted on savers one more time. Indeed savers might quite reasonably think that this from Status Quo applies.

Again again again again, again again again again

Or of course there is.

Down down deeper and down
Down down deeper and down
Get down deeper and down

Comment

There are several issues to consider here of which the first is simple fairness. How long  in a democracy can one-sided policies continue which benefit borrowers at the expense of savers? However there is an economic impact too which is that such Keynesian style policies have a time limit i.e they change things for a period and by the time that is up then the situation is supposed to be different as in better. The catch is that at best we are now singing along with Muse.

Time is running out

Actually it is my opinion that it ran out some time ago and central banks are going back to the same play-book because they combine desperation with a lack of imagination. But whilst some (US Federal Reserve and the Bank of England) tease us with talk of interest-rate rises none have actually arrived and I note that the ECB tried it and now has negative interest-rates. So savers continue to be in the chill of what feels like a nuclear winter as I wonder if it will be followed by even more fall-out? After all the current disinflationary trends allow central bankers to talk of rising real interest-rates for a while at least.

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22 thoughts on “What are savers supposed to do in a world of continual interest-rate cuts?

  1. Hello Shaun,

    Whats it like to be in a world where the Banks are still bust and , yes , so are the Governments?

    is this just another tactic in the Currency Wars?

    The trouble with having a zero rate for borrowing means you have to have a zero rate for savers , or less than , for how can the retail banks survive? By gambling on the stock exchange it seems …..

    Am I just paranoid in thinking there’s something big going down ?

    (http://en.wikipedia.org/wiki/Something_Big)

    or has the madness spread ?

    “The Lunatics (Have Taken Over the Asylum)” Fun Boy Three

    The figures I look at show that the world economy is stuttering and that ,if my premise is right about fantasy GDP figures , then there’s no “real” growth at all …..

    When there’s effectively a savings tax going on then where do people put their cash , under the mattress? perhaps granny was right , stuff the spare case in a jar above the mantle piece! There’s a real risk here that the wheels will come off the Banking economy as people pull cash from the banks because its cheaper more rational to hold notes .

    Then watch then devalue , Weimar Republic style

    Hmm,

    Clowns to left of me, jokers to the right,
    Here I am, stuck in the middle with you

    “Stuck In The Middle With You” by Stealers Wheel

    Still gotta laff , haven’t you ?

    Forbin

    High Fly by John Miles

    Highfly, touch the sky,
    Whatcha gonna do now the well’s dry?

    he he , sits back ,takes notes, and chomps on some popcorn….

    • Hi Forbin

      There is much to consider including how far negative interest-rates rates will spread to the ordinary depositor. Oh as for for central bankers there is always “Heads Down No Nonsense Mindless Boogie” by Alberto y Lost Trios Paranoias.

      Strong day for the oil price now at US $57.5 but the break of the downtrend was always going to see a sharp bounce as we await the next real move.

  2. Hi Shaun

    Excellent article as always.

    How long do you think the FLS will impact savings rates?

    When it comes to savings, it definitely seems that generational
    policies are in place. If you’re a pensioner, you get an index
    linked pension, triple locked in a deflationary environment.

    Savings rates no good, then you get a pensioner bond bribe
    just before the election. so popular the website crashed on
    its first day. If I want to get 4% I have to invest in glaxo
    or IT’s (not that I mind).

    Well done for calling out Mr Bean on his gold plated pension.
    The likes of which the private sector can only dream off. Perhaps
    you could do an article on the final salary liabilities of the uk 😉

    • Is the higher rate bond for Pensioners even legal? Surely this is Age discrimination against the young. Why should we offer better rates to people over a certain age?

  3. I am a pensioner, but entirely agree with the comments about the (artificially) inflated pensioner bonds. It is indeed age discriminatory and unfair to younger people.

    • Hi PieterC

      The facts are that the borrowing is a bad deal for the UK taxpayer who is paying 2.8% for one year when the equivalent Gilt yield is 0.33% as of tonight’s close. The three year offer of 4% is an even worse deal for them against a Gilt yield of 0.63%.

      For a pensioner it is accordingly much better than can be got elsewhere…

  4. “Mr.Bean did not have to dip into his pension which rose and rose to an index-linked £119,200 per annum.” Which index, I wonder? Or can I guess?

    • Hi James Alexander

      As you have probably already guessed the Bank of England Pension Scheme was indexed to the RPI! Yes the same RPI that the UK establishment regularly tries to pillory as too high and “not a national statistic” etc..

  5. Hi Shaun

    One (unintended?) and potentially major effect of this “financial repression” is that pensions have become much more expensive in terms of lower annuity rates and, as so many private schemes are now DC and not DB schemes, this will affect a large number of people going forward. People with large mortgages may be gloating now but they won’t be gloating when they come to retire in a few years and see what their pension pot will buy. I retired five years ago and if I retired today I think i would get 25-30% less than I did; this is mostly down to the reduction in gilt rates.

    Also we shouldn’t forget that putting up interest rates will expose the truth: that we are in a fake recovery with, I think, some major structural problems.

    • Hi Bob,

      You’re right. I think this is a massive problem going forward. Half the population don’t save for a pension. And the average pension pot is tiny. I’m not expecting a state pension when I retire (I’m 42), but a lot of people will have nothing.

      And then they’ll gaze across to the people with gold plated final salary pensions.

      • Finally salary pensions are a Ponzi scheme anyway. If you think about it how can they really guarantee that they will be able to afford to make fixed future cash flows for an undetermined length of time. It all assume assets give a certain rate of return which they currently haven’t.

        They maybe nice to have but they shouldn’t be allowed as they leave a company with an obligation it has no way of knowing it can pay. Only the Government can do that by printing money.

        • The Government gave companies a “get out of jail free” card when it introduced Auto enrolment – any company that has a DB scheme is entitled to require the employees to cover any shortfall in the scheme through “salary sacrifice” (you pay more into your pension scheme and the extra payments are not taxable, just like it is anyway) whilst the company may reduce it’s payments into the DB scheme to the Auto enrolment amount for employers of 1% rising to a maximum of 3% by October r 2018. Job done – the final annihilation of DB schemes courtesy of the Government.

          Of course, you as an employee can elect to pay ever higher contributions to the DB scheme to shore it up or alternatively sign up for a DC scheme or NEST.

  6. Deutsche Bank’s gross derivative exposure is over £50trn.
    It is never going to end.
    The banks are bust & they are staying bust; the only question is, “When do we acknowledge it?”
    There comes a limit to how long one can spin plates.

  7. I find it interesting listening to the electioneering rhetoric now, that so much of it openly presented as describing desperate, dangerous times. The politicos do not flinch from saying that we are in trouble, that there are many clear economic threats, and they often cite “The Great Depression” to justify the cuts ahead. Mark not what they say, mark what they do. This is worth remembering in terms of the slashed emergency rates and any real chance of a rise – despite the silly forward guidance/market teasing – but look at what they are saying, openly, as election promises. Cameron made it plain yesterday that there will be no inflation-protected school funding. I thought that was quite an admission, a real terms cut in the education budget. And that’s after 6/7 years of emergency measures from an emergency coalition. Savers have been screwed over as TPTB risk everything to stimulate growth, twisting the stats and pumping money into the banks. Democracy is a bit of an afterthought. What alarms me is the action-stations, needs-must talk we’re getting already – what new emergency state measures and token nod to democracy might we get if GDP tanks and there’s no outright winner in the election? There are so many aggrieved parties now, in the UK populace, perhaps the wronged savers should band together, cheated youth and pension-robbed oldies, to find representation with other values than protecting asset prices and banks?

    • Hi Peter

      The establishment blunders around a lot and I am reminded of the 2011 riots clampdown when some offences which at worst might get a bit of community service suddenly became 6 months terms. There was a hint there although with the jails pretty full where would they put everyone?

      I subscribe to the view that a lot of this is incompetence rather than an outright conspiracy but yes I too fear the consequences of the next downturn.

  8. “What are savers supposed to do in a world of continual interest-rate cuts?”

    Divert their savings to the markets, join the party and pump them ever higher, surely any one can see that has been the message since 2008?

    • Hi Noo2

      Yes it is the message but that does not automatically make it continue to be right. Also tucked away in the situation is the decline these days of low risk investments as at these prices bonds are often high risk in my view.

      Of course things were never as low risk as previously thought, but there has been a genuine change I think,.

  9. Hi Shaun. I completely agree your reply. I wasn’t condoning the message, merely confirming what it is.

    I think that if/when the message is followed it will create a new Black Swan event equivalent to the Credit crunch only this time it will be every asset class crashing and never recovering, whilst the whole populace will be affected via their DC pensions thanks to Auto Enrolment The Government can’t do anything this time whilst the banks wouldn’t even if they could.

    I also think it will take some years for this almighty crash of which I speak to materialise.

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