Historic Low Rates: Savers Get the Shaft

On January 25, 2012, the Federal Reserve announced that it will be keeping interest rates at historic low rates near 0%. For the past few years, this has been the state of affairs as the Fed, led by Chairman Ben Bernanke, attempts to stimulate the economy.

While historic low rates offer some opportunities for those who are looking to borrow, savers end up getting the shaft, because the yields on their cash accounts are so low. Even Treasury investors are finding fresh sources of concern. The 10-year Treasury yield dropped to 1.94% within two hours of the announcement.

High Yield Isn’t So High Yield

Before the financial crisis of 2008, it was possible to find a high yield savings account offering more than 5% APY. This state of affairs was great for savers. It provided them with a safe place to the stash the emergency fund, all the while earning a yield that would likely beat inflation.

Now, though, a “high yield” account might net you a little more than 1% APY. If inflation averages 2% this year as some predict, that means that savers are losing money in “real” terms — that is, in terms of their spending power. Your low yield is likely to continue for the next little while, since the Fed believes that it needs to keep rates low in order to stimulate the economy.

And, because the official measure of inflation that the Fed uses to set policy leaves out energy and food prices, the impact on your household is likely to be greater because in your life you are subject to these prices increases (even if the Fed doesn’t acknowledge them for monetary policy purposes).

How to Make the Most of a Low-Yield Environment

You are going to need to do everything you can to make the best of the current low-yield environment. For many people, this means paying off debt as much as you can until 2014, when the Fed expects that it will raise interest rates. If you are carrying debt, now is the time to pay it down, while rates are somewhat low and more of your payment will reduce the principal, rather than going to interest.

It’s also a good time to refinance your current debt. If you have a mortgage rate that is at least 1% higher than the current mortgage rates (which are likely to follow 10-year Treasury yields lower), you can refinance to save money each month — and over the life of your loan. Consider refinancing your car loan, and transferring higher interest debt to 0% APR credit cards or consolidating with low-rate loans.

For those in the market for a new home or car, now is a good time to buy. With rates so low, you can better leverage your money. While you don’t want to borrow just because rates or low, it can be a good time to make a planned purchase, since you will pay less. And, in fact, that’s what the Fed is hoping you do. These low rates are designed to encourage borrowing as a way to stimulate economic activity. If you were planning on making a debt purchase anyway, you can help the economy while taking advantage of a good financing deal.