NEW YORK–The gap between the fed funds rate and the average rate being paid on deposits by financial institutions is at one of its widest points in history, according to a new analysis.
The report, issued by the Federal Reserve Bank of New York’s Research and Statistics Group, which noted that in a prior post it explored how deposit pricing was changing slowly in response to higher interest rates as of the second quarter of 2022, measures what the Fed bank calls a “deposit beta” that captures the pass-through of the federal funds rate to deposit rates.
The new analysis, which includes data through year-end 2022, found a continued rise in deposit betas to “levels not seen since prior to the global financial crisis.”
Basis for Conclusions
To infer the annualized rates being paid on deposits, the Federal Reserve Bank of New York said it summed across all bank holding companies and scaled the interest expense paid on deposits by the average of the corresponding deposit balance during the quarter. The analysis notes deposit rates tend to lag changes in the fed funds rate, particularly during a rising interest rate environment.
“In 2022, Q4, the average fed funds rate reached 3.7% and interest-bearing deposit rates reached 1.4%,” the Fed bank said. “During 2022, Q4, the cumulative IB deposit beta increased to almost 0.4. This is on par with the peak beta in the rate-hike cycle of 2015-19, but the beta has risen much faster in the current cycle, reaching to almost 0.4 in one year instead of the three years it took in the prior cycle.
‘Rapid Pace of Increases’
“One reason for the markedly higher speed of adjustment is the rapid pace of interest rate increases in the current hiking cycle,” the report continued. “As the fed funds rate rises faster than deposit rates, the gap between the fed funds rate and the deposit rate increases. This gap is indicative of the opportunity cost for depositors relative to other investment vehicles….The fed funds rate and the deposit rate is at a modern high of above 2%. Hence, 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.”
The full analysis can be found here.
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