Low interest rates: Who are the losers?

Ben Bernanke, the Federal Reserve Chairman, reminds us frequently why he has chosen to continue low interest rates and easy money — to boost the economy and encourage investing.

He notes the advantage to those paying mortgages and the incentive it provides to stimulate the rebound of the “home industry.” Exporters applaud Quantitative Easing (an opaque term for printing money), which devalues the dollar and enhances the competitive position of our exports. Bankers appreciate the stream of cash which has helped to repair their balance sheets. Large corporations are delighted to find cheap money for investments. Not mentioned by Mr. Bernanke is the ability of our national political leaders in the short term to borrow huge sums, while minimizing the interest paid annually by the federal government.

There is something else about interest rates close to zero and about easy money not highlighted by the Fed Chief. Who are the losers?

Let’s start with the savers and investors. Anyone looking at a savings account or money market statement gasps at the trivial returns. According to A. Gary Shilling, writing on Bloomberg, banks and thrifts, facing low interest earnings, have raised their minimum balance requirements on checking accounts by 23 percent. Consumers also now pay 25 percent more on noninterest checking accounts, and the percentage of noninterest checking accounts free of charges has dropped by 37 percent. Trillions of dollars are now simply “sitting” in accounts. For those living on a fixed income, the meager returns paid by “safe” investments are forcing many to dip into their assets prematurely.

Many baby boomers are coming to grips with the reality that the nest egg they set aside is inadequate in this economic environment to provide a sufficient revenue stream to support retirement. Consequently, many are working longer than planned. This, in turn, has an impact on the employment market where young people are looking for new job openings and others are hoping to advance. For those who believe in déjà vu, this situation is a reminder of Franklin Roosevelt’s rationale for instituting Social Security during the Great Depression: not only guaranteeing dignity for retirees but also encouraging early retirement to make room for the unemployed.

Banks may be happy to receive low-cost funds to repair their balance sheets, but there is also a downside. The relatively flat yield curve, anchored by zero federal funds rate on the short end, is pushed down for longer maturities, at which banks normally lend, by declining Treasury yields. A quick peek at bank yields on assets shows a downward trend.

Next are the insurance companies, particularly life-insurance companies whose cash-value policies and annuities are basically “savings accounts with life-insurance wrappers.” Insurers usually like to invest in bonds, mortgages, and related securities. The declining yields on their portfolios are forcing the companies to cut benefits, raise prices, or design less generous policies.

State government defined-benefit plans for government retirees are another problem, and the taxpayers are the losers. These plans are predicated on a certain rate of return from investments, which in recent years has been wildly optimistic. Exacerbating the problem is the current funding level of most states, which can best be described as inadequate. Since most of these plan payouts are guaranteed, low returns on the pension assets mean that the taxpayers pick up the shortfall.

Defined-benefit plans by corporations also have a problem with underfunding. Shilling notes that the expected median rate of return has fallen from 9.1 in 2002 to 7.8 percent today; this on top of low interest rates on their bond holdings. Add to this the discount rate used to determine the present value of future corporate pension benefits. The rising present value of future liabilities must be offset by ever higher rates of return, benefit cuts, or digging into corporate profits to pay the difference, much to the chagrin of those stockholders anticipating a dividend.

How about consumers? Rising global commodity prices have driven up the cost of everything. Consumers are paying more for basic items at a time when their real incomes are flat.

Finally, we need to look at the impact on emerging markets. Quantitative Easing weakens the American dollar, which leads to higher exchange rates in developing markets like Brazil and Mexico. This in turn leads to weaker exports for the developing countries, slower growth, and currency wars.

Since interest rates are determined by government policy and not by the marketplace, Bernanke’s policies at the Fed must be scored based on the total picture. When you add up the number of losers hurt by a zero-interest policy, I think it outweighs those classified as winners. Why the losers receive so little attention is a mystery, unless the real motivation of the policy is political: continue the spending binge without consequence because interest costs at this point are negligible and the public isn’t complaining.

Wait, I thought the Fed was apolitical? Guess I’ll have to put that question to Ben for an answer.       

Norman Poltenson is publisher of The Central New York Business Journal. Contact him at npoltenson@cnybj.com