Authored by Charles Schwab (yes, that Charles Schwab), originally posted op-ed at The Wall Street Journal [8],
For America’s 44 million senior citizens, plus tens of millions of others who are on the threshold of retirement, last month marked a watershed moment that is worth celebrating. At the end of October, the Federal Reserve announced the first step in returning to a more normal monetary policy. After nearly six years of near-zero interest rates and quantitative easing, the Fed is ending its bond-buying program and has signaled a plan to eventually begin raising the federal-funds rate, raising interest rates to more normal levels by 2017.
U.S. households lost billions in interest income during the Fed’s near-zero interest rate experiment. Because they are often reliant on income from savings, seniors were hit the hardest. Households headed by seniors 65-74 years old lost on average $1,900 in annual income over the past six years, according to a November 2013 McKinsey Global Institute report. For households headed by seniors 75 and older, the loss was $2,700 annually.
With a median income for senior households in the U.S. of roughly $25,000, these are significant losses. In total, according to my company’s calculations, approximately $58 billion in annual income has been lost by America’s seniors since 2008.
Retirees depend on income from their savings for basic living expenses. Without that income, many seniors have taken on greater risk to increase the potential yield on their savings, or simply spent down their nest eggs. After decades of playing by the rules, putting off spending and socking away money, seniors have taken it on the chin. This strikes a blow at the core American principles of self-reliance, individual responsibility and fairness.
Their lost income affects all Americans. Seniors make up 13% of the U.S. population and spend about $1.2 trillion annually—a big chunk of America’s $11.5 trillion consumer economy. In general, seniors spend more than their income, withdrawing each year from accumulated savings, and so their interest earnings get spent right back into the economy.
This makes for a potent multiplier effect. My company estimates that the $58 billion in annual interest income lost by seniors over the past six years would have boosted GDP by $115 billion a year during this period. In a $17 trillion economy that amounts to an additional 0.7% of GDP growth, by no means inconsequential—a 1% increase in GDP typically leads to an increase of more than a million jobs.
Normalized interest rates are also good for the economy broadly. Total short-term interest-bearing assets are today close to $11 trillion. Based on that, a 1% increase in interest rates will generate over $100 billion in increased income. And there is ample room to raise rates. Today the one-year return on a CD is just north of 1%. In a more normal environment, the annual return on a one-year CD has been about 6.15%. As interest rates begin to normalize, increased personal income will drive spending, economic growth and jobs.
Will more historically normal interest rates have negative impacts on others? The cost of homeownership may be higher and borrowing in general will be more expensive. But these costs are largely born by middle-class and higher-income families and they will see that impact lessened over time through inflation. But is it fair that seniors subsidize cheaper credit for others? Most people wouldn’t think so.
So celebration is in order. First, because the famine for savers and seniors over the past six years may soon be over. And second, because good news for savers is good news for the economy and job seekers. Savings are closely tied to investment and growth. The more savings people have, the more money there is to spend or invest, and the faster the economy grows.
Because it creates a direct shot of consumer income that in turn becomes consumer spending, the return of normal market-based interest rates will increase the velocity of money in ways that the policies of the past six years have not. That is a good reason to encourage the Fed to be even more aggressive and normalize monetary policy as quickly as possible. But today, let’s celebrate the Fed’s first steps in that direction and the monetary benefits they’ll have for seniors and savers.
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While we agree 'normalization' is healthy (and the wealth distributive impact of QE has crushed seniors/savers), we wonder if Mr. Schwab has calculated the loss in AUM when higher rates destroy the only bid under stocks from corporate buybacks?
