Cecil Bohanon and John Horowitz: Yields on savings are up, but you need to act

A market economy works well when most of its participants have a reasonable degree of self-reliance and resiliency. Few things promote these virtues more than households having a healthy nest egg in safe, liquid investments. A fat savings account provides peace of mind and a fallback in an emergency or economic setback. The old adage of having six months’ spending in ready reserve is good advice.

One of the unintended consequences of the Federal Reserve holding its short-term interest rate under 1% for nearly a decade from 2008 to 2017 and again for two years during the pandemic is that it encouraged a whole generation of savers to pay less attention to yields on their cash holdings. It simply did not pay.

Consider a household with a nest egg of $20,000 in an insured bank account that pays an annual interest rate of 0.05%, generating just over $10 a year in income. Under a regime of ultra-low rates, the prudent saver might be able to find an equally safe alternative that yields a 0.075% interest rate. However, this would generate only a paltry $5 a year, or 42 cents a month, in additional income.

Contrast this with today, where safe cash accounts offer much higher rates. At a 3.90% annual rate, $20,000 yields $780 a year, a gain of $775 a year over the 0.05% account. That makes it worth one’s time to chase down higher yields. One need not be well-heeled in today’s environment for it to pay to seek higher yields. Nevertheless, many better-off folks have gotten out of the habit of seeking better returns on their cash holdings.

A recent Wall Street Journal article reported, “Many brokerages paid clients minimal interest [on sweep accounts] even when broader rates were rising.” Sweep accounts are bank or brokerage accounts that automatically move money between a primary account used for immediate expenses and other investment accounts, such as savings or money market accounts, where investors earn interest. Banks and brokers have been slow to increase their rates on these deposits even as broader rates on insured deposits have risen.

Not raising rates, of course, enriches the banks. Despite some improvement, recent data suggest that the average rate on “sweep deposits under $250,000” is currently a low 0.4%. As one pundit opined: “Folks with cash have to be their own advocate. Don’t expect the bankers to hold your hand.”•

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Bohanon and Horowitz are professors of economics at Ball State University. Send comments to ibjedit@ibj.com.