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What happened to the days where you would earn some real money from savings account?

In the 1980s and 1990s, having a savings account used to be an investment, with interest rates ranging from 5% to 10% per annum. But guess what? 

Those Days Are Long Gone.

Today, you will be lucky to find a bank that pays more than 1.5% per annum. Some banks do, but there are strings attached such as: minimum balance, usage requirements, and other factors.

How Interest Rates Are Determined

SAVINGS ACCOUNTS

CREDIT TO BANKRATE.COM

 

Supply and Demand of Savings Accounts

When you deposit money in a savings account, it earns interest. The bank then lends the money out as loan to individuals and businesses. An interest is charged on the loan at a higher percentage than what you are given.

Most consumers value savings accounts as they are liquid and virtually risk-free. Banks offer this account because it gives them money to lend out as loans. When the bank needs more deposits, they raise interest rates to attract more deposits. When they want to reduce bank debits, they lower the rates. 

Government Interference

Among other responsibilities, the Federal Reserve (the Fed) is responsible for:

  • Loaning banks money at a rate referred to as the Federal Discount Rate
  • Controlling the rate at which banks lend out money to each other. This rate is known as the Federal Funds Rate. 

When the economy is weak, the Federal Reserve lowers the two interest rates to make it easier for banks to lend out money and to enable them to borrow from the government. As a result, banks offer loans at low rates to encourage borrowing. Borrowing increases consumer spending which drives about 70% of the economy, hence stimulate growth in the economy. 

When the economy is strong,  the Fed raises the rates to control inflation. Inflation is the rate at which costs of things increase. High inflation damages the economy, therefore, interest rates are likely to increase. 

The interest rate is currently low. The Federal Reserve wants as many consumers as possible to borrow money at low rates and start spending. 

It’s All About Economics

Interest rates are determined by the demand and supply of credit. When demand of credit is high, the rates are high, low demand equals to low interest rates. Conversely, increased supply of credit decreases the rates while a decrease in supply will increases them.

Caroline Wanjiru

December 5, 2019