My disappointment with the current interest rates on savings accounts
Currently, I am quite disappointed with the 0.89% APR on my savings account with Fleet Bank. Even if that interest rate is compounded continually, the effective annual rate I earn on my money is just a little over 1% (1.008939723% to be exact). I am glad that by leaving my money in the bank, I earn interest on that money, giving me more money than I would if I left it under my pillow at night. What upsets me is that the purchasing power of my money is declining. Last year, the inflation rate was around 2.6%. With the money in the bank only earning 1%, the purchasing power of my money is declining and I am generating a negative real return on my money. According to the Fisher Equation, the real interest rate (or in my case, the real rate of return) is equal to the nominal interest rate (my 1% interest on my bank account) minus the inflation rate (around 2.6%). According to this calculation, the real rate of return on my money in the bank is –1.6%.
I know that there are alternative investment opportunities available to me. There are several debt and equity securities, and mutual funds that could offer me higher returns. However, my lack of funds and strong need for cash constrain me from investing my money outside of banks. As a college student who has less than $3,000 of money (cash) and needs every dollar of it for living expenses, I need to have easy access to hard cash. If my money is in mutual funds, stocks, or bonds, I do not have easy access to cash. To receive the cash, I would have to sell the shares for stocks and the mutual funds and/or sell the bonds. This will not put the cash in my pocket as quickly as going to an ATM machine. Also, in the case of mutual funds, the investor must invest at least $1,000 to buy into the fund. I can’t afford to have such a large fraction of my money tied up in the fund when I need the money (cash) to live on. Besides, with the way the market has been, I would most likely have a real return of my money much worse than the –1.6% at the bank, particularly with the equity securities. Thus, I am stuck in a position where the interest rate I can earn on my money in a savings account generates a negative real return.
Common knowledge ·
Mankiw, Gregory. Macroeconomics-Fourth Edition.Worth Publishers: New York, 2000. · Bodie, Zvi. Essentials of Investment-Fourth Edition. McGraw-Hill/Irwin: New York, 2001.
Euro and savings
This story has to do with a bank’s responsibility to report to the government when a
customer has made a large deposit, and the customers’ attempt to not let the government keep track of their earnings:
Having spent the last semester in Spain, I was able
to witness the introduction of the Eurodollar into the Spanish monetary system and see firsthand what this transition meant for the society. On January 1, 2002, the Euro was made available in currency form for the first time (even though stores had actually been listing the Euro prices for quite sometime now). People were given just about 2 months to exchange their pesetas for Euros, and by the end of February, the peseta would no longer be accepted as a valid currency and would not be able to buy anything.
This posed problems for those who had been saving large sums of money outside of banks. They could not exchange this money at banks, because clearly, the banks would have to report this newly appearing money to the government, and the government would, in turn, investigate as to its origins. My professor of EC102, once told me that 25% of Spain’s national income was earned through black markets. I thought this number to be very large, but now that I have lived in Spain, I do not doubt that he is right. Vendors sell things illegally on the streets, as police turn their heads; drugs are plentiful and easy to get; and I doubt if the señoras I have lived with have had to claim their earnings.
The solution for not exchanging their unclaimed pesetas at banks was to purchase fast and to purchase a lot! Within the first two months of 2002, many shiny new BMWs and Mercedes appeared on the streets, and people went on luxurious vacations, dined in fancy restaurants, and bought expensive goods. In general, the Madrileños appeared a much wealthier people than the summer before when I had visited Spain.
Interest Rates on Savings in Ukraine
Years after collapsing of the Soviet Union the countries of that region still suffer serious economic problems. The following story is just another indication of instability of economic system in post-Soviet countries. The most interesting thing about banking system is interest rates on the saving accounts. On average for the last 3-4 years the interest rate on a saving accounts fluctuates from 15-30% in hryvnas (Ukrainian currency) and 6-12% in US dollars. The first thing that might seem strange is the presence of saving accounts in US dollars (usually European and American banks do not offer saving accounts in other currencies, than their national). The enormous fluctuation of the interest rate from bank to bank is another thing that is unusual for western economy. On my opinion the main cause of such behavior of interest rates in Ukraine is instability of the system; people simply do not trust banks, that is why the last have to attract customer by offering high interest rates. Huge fluctuations of interest rate from bank to bank could be explained by looking at the history of the banks: those who have established good reputation are more likely to offer lower interest rates. And maybe it is worth to use the services of those who have better reputation. For example, one of the new banks (Bank "Ukraina") just closed down with all the money it had and board of directors, who disappeared, left only nice building that they owned. The high interest rates and presence of dollar accounts is due to the instable Ukrainian currency which exchange rate tripled in a month couple of years ago. All that also explains why, for example foreigners do not want to have their money in those banks even though the interest rates are extremely high; they simply are scared of losing of what they have in just short period of time.
They seem to be a cute, harmless way to teach youngsters to save money, but so-called "piggy banks" are bad news for the economy. There may hundreds of thousands of dollars, maybe even millions, deposited and trapped in piggy banks belonging to kids throughout the world. A piggy bank full of money is a literal store of monetary value. However, small children everywhere are hurting themselves and society at large. As the phenomenon of inflation persists in the world, the money in piggy banks is losing relative value due to decreased purchasing power. Children let their piggy banks collect dust rather than investing their cash assets. In turn, these careless toddlers are stunting economic growth. Although they may wish to avoid transaction costs of riding their tricycles to their hometown bank to deposit their nickel each time they receive one, they could at least go down once a month; most kids I know leave their piggy banks intact and then finally break them open after a period of two, three, maybe even ten years! Youngsters age one to four years old especially have no excuses. Since they have not even entered kindergarten yet, the opportunity cost of routinely depositing their funds into an interest-bearing account is low. Rather than take a trip to the sandbox, they should be going to the banks and negotiating investment deals. We as a society are suffering because of this idle capital. The toddlers should be providing their piggy banks to government or corporations in exchange for interest payments and/or stock dividends plus a return of the initial funds prior to entering college. If the infant population would all lend their piggy bank assets to the parties who could generate the most output from the money, the world's productivity would rise and eventually translate into higher levels of consumption and utility for all. Since a piggy bank owned by a child is a sunk cost, encourage toddlers to stop using ceramic pigs
to store their money. Instead, have them be economically responsible by taking their cash assets to the financial markets where they belong!