LAKE FOREST, Ill.—The Federal Reserve’s monetary policy is jeopardizing the future of financial institutions, contends one economist who is predicting net interest margins will markedly fall in 2019 if financial institutions don’t begin taking certain actions today.
“The Fed’s rapid interest rate increases makes no sense,” said Michael Moebs, economist and CEO of Moebs Services. “Banks, thrifts, credit unions and even money market mutual funds do not have rates anywhere even near the federal funds rate, currently at 2.25%. The average basic savings rate for all depositories is 0.27%. Normally, savings rates reflect 50% of the Fed funds rate. The average basic savings rate is 12% of the fed Funds rate.”
The Federal Reserve’s moves to emphasize only price puts a lot of pressure on banks and credit unions, Moebs said.
“Depositories are concerned about competition from fintech firms and large banks that can afford to increase interest on deposits rapidly,” asserted Moebs. “Smaller and mid-size banks and credit unions are caught between shrinking volume in mortgage and auto lending and now rapidly rising interest cost. It is hard to believe the Fed disregards the huge gap between Fed rates and deposit rates and the pressure it puts on Main Street banks and credit unions.”
Fixation on Rates
But the Federal Reserve is fixated on interest rate, insisted Moebs.
“Again, the Fed thinks of nothing but price. Isn’t the fundamental of economics to build on price and volume? The Moebs $ervices Rate and Money Study found that the Fed is keeping money supply low and increasing rates. This coupled with fiscal policy of tax cuts is what the Fed believes will stimulate the economy,” said Moebs.
Moebs is predicting that in 2019 interest expense is poised to dramatically increase.
“Gross interest expense could easily double next year, and banks, thrifts and credit unions need to plan for net interest margin falling,” he said. “This is because mortgage and auto markets are seeing deterioration, especially credit unions. Depositories need to increase fee revenue and cut non-interest expenses to offset the substantially higher interest cost caused by the Fed.”
A Simple Test
A “simple way” to see how the Fed is causing difficulties for depositories is to compare the rates of six-month CDs with six-month Treasury bills (see chart), according to Moebs.
“Currently the six-month CD rate at all depositories is 0.27%,” he told CUToday.info. “The six-month T-bill is at 2.34%. Normally, the six-month CD rate is half—50%, of the T-bill rate or about 1.17%. The six-month CD rate is 11.5% of the six-month T-bill.”
Meobs argues the obvious conclusion is the Fed has increased rates too quickly.
“The Fed needs to stop increasing rates and even consider cutting rates to get closer to the market,” said Moebs. “Increasing rates further will decrease demand for housing and auto, thus triggering reduction in loans for both markets.”
Michael Moebs
But Moebs acknowledged that all forecasts call for the Federal Reserve to increase rates next month and more than likely twice next year.
Steps CUs Should Take
Moebs outlined steps banks, thrifts and credit unions need to follow with more rate increases coming:
- Plan on increasing interest rates on deposits to keep deposits from leaving.
- Pass on the deposit rate costs in loans, “although this will be difficult with autos and housing—prepare for lower volume with most consumer loans,” he said.
- Increase fee income. “Think in terms of reducing fee prices to stimulate volume resulting in more revenue,” Moebs said.
- Cut non-interest expenses to increase income. “Unfortunately, this may include staff and branches,” he said.
A Final Appeal
Finally, Moebs said credit unions might even want to appeal to a higher power than the Federal Reserve.
“Pray the Fed gets sensible and stops increasing interest rates, and even cuts back on current rates—but don’t hold your breath.”