The interest rates banks pay on $18 trillion in deposits lags behind the fed-funds rate by the largest gap on record, according to a New York Fed paper, but that may be about to change.
Bank deposits are in focus for investors rattled by runs on institutions last month following the collapse of three regional lenders. But the paper, by economists Alena Kang-Landsberg, Stephan Luck and Matthew Plosser, highlighted the opportunity cost for depositors compared with other, higher-yielding investment vehicles, including money-market mutual funds.
New York Federal Reserve Bank
The chart above shows that the spread between the fed-funds rate and the deposit rate is at a modern high above 2%. As a result, “banks are facing significant competition for savers from other vehicles that offer rates closer to the fed-funds rate, such as money market mutual funds,” they wrote.
Read the full paper here.
The paper, an update of earlier research from November, focuses on “deposit betas” — economic jargon for a measure of how quickly banks pass on Federal Reserve rate increases to depositors. The research found that betas are on the rise, but that the fast pace of the Fed’s tightening since March 2022, taking the fed-funds rate from near zero to between 4.5% and 4.75%, has left deposit rates behind.
See: Why bank savings deposit rates aren’t keeping up with the Fed’s rate hikes
That suggests both deposit rates and betas are likely to continue to rise in 2023, the paper found.
The researchers also found that banks are paying higher rates on 12-month certificates of deposits and other vehicles while keeping rates on checking and savings accounts low.
Related: Goldman Sachs says it expects to see further deposit losses at banks
The research shows rates offered for 12-month CDs have risen more than for money-market deposit accounts, they said, which in turn were more responsive than savings accounts, which were more responsive than checking accounts. “Overall, banks are raising rates on specific categories of deposits and that is being reflected in the composition of deposits,” they wrote.
The paper concluded that depositors, meanwhile, are likely to follow rates in those categories higher.
“Banks have been managing the deposit runoff using more attractive time-deposit rates and other borrowings. Given the increase in fed funds rates since [the fourth quarter of 2022] and the wide gap between deposit rates and the fed-funds rate, we expect that deposits will continue to shift into higher rate categories that are more responsive to monetary policy,” they wrote.
This post was originally published on Market Watch
