Households and corporations alike are refinancing their loans in droves to take advantage of interest rates that seem impossibly cheap. But those same low rates come with a flip side, driving down the income of retirees and others who live off their savings.
It is a side effect of a government policy meant to push down interest rates to a point that businesses and consumers are compelled to borrow and spend again, and yet it is hurting anyone with a savings account.
With the regulated rate that financial institutions can borrow from one another at almost zero, banks are paying savers next to nothing. The average returns on interest-bearing deposit accounts slipped to 0.99 percent in July, according to Market Rates Insight, which tracks bank rates. It is the first time its measure has dipped below 1 percent since the 1950s, when its data begins.
Once again, we have to look at over-arching basics, and in this case the driving force is America’s trade deficit. Huh?
One inescapable reality of economics — for many centuries — is that the sum of [b]Government Balance[/b] (surplus or deficit) plus [b]Private-sector Balance[/b] (savings or debt) [i]must be EQUAL to[/i] the [b]Current Account Balance[/b] (net sum of all international transactions, either surplus or deficit). Balance of trade (exports minus imports) is a very large component of the current accounts balance, and America has been running immense trade deficits.
Here’s why it matters:
[b]Current Accounts = minus 6%[/b] of GDP
[b]Government Deficits = minus 11%[/b] of GDP
[b]Private Sector Surplus = plus 5%[/b] of GDP
Do you notice how they balance? This is the economics equivalent of Newton’s second law of motion, Force = Mass x Acceleration. It is that basic. What it means is that you quite simply [i]cannot[/i] have both government and the private sector in surplus when current accounts (“trade deficit”) is negative.
In this case the private sector surplus is most interesting because the savings rate is — as the article correctly indicated — almost not existent. So where is the surplus?
It exists in the rapid destruction of existing debt by both businesses and individuals. We are paying off debt (or writing it off) as fast as we can; in this case at nearly 5% of GDP annually. If you owe money at 7% interest and you have money to spare, the logical thing to do is pay down debt. The effective return is ten times better than “saving” it.
As a final illustration, consider the few years of government surpluses back in the late 1990s. We still had a current accounts deficit of about 5% of GDP, and government surpluses were 1% or 2% of GDP. Do you see where this is going? The private sector was borrowing with abandon … at about 6% or 7% of GDP.
Here is the difficult essence of the problem. Until we do something about current accounts, any improvement in government fiscal responsibility will have to come at the expense of the private sector, both businesses and individuals.
Governments and the entire private sector are competitors, not allies, and will remain so as long as there’s a current accounts deficit.