Savings drain slowly as interest on deposits lags far behind inflation

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TORONTO – Canadians’ savings accounts have been leaked.

As inflation hits 8%, anyone with money in the bank is seeing their savings deplete at the fastest rate on record, as interest rates on savings accounts, which are still largely languishing at around 1%, did not follow.

“They’re going to lose money. The value of their savings goes down,” said Claire Celerier, associate professor of finance at the University of Toronto’s Rotman School of Management.

This is a stark contrast to the last time inflation was this high. In 1981, inflation peaked at over 12%, but Statistics Canada data indicates that bank accounts were earning 19% interest, and even in 1990, when inflation was just under 5%, bank accounts yielded more than 9%.

There are several reasons for the delay, but part of the problem is the concentration of the Canadian banking sector, Celerier said.

“When competition between banks is less, it takes longer for them to adjust rates on deposit accounts.”

Banks simply don’t have much incentive to change rates unless they have to, she said.

“When banks don’t raise rates on deposits, they make more profit…It’s a very simple way to make a profit, to have a low rate on deposit accounts.”

Part of what drove rates up in the early 1980s was the introduction of money market mutual funds, providing a competitive alternative to bank accounts for average savers.

There are a growing number of online banks and credit unions offering competitive rates. After the Bank of Canada raised its key interest rate by one percentage point in July, Oaken Financial raised its rate from 1.65% to 2.25%, while credit union Duca raised its rate. rate of 3.1% to 3.25%, said Natasha Macmillan. , Director of Daily Banking at Ratehub.ca.

However, Canadians don’t tend to switch banks very often. A 2020 Accenture survey found that less than 4% of consumers said they had changed their primary bank account in the past year.

Some banks have also started raising rates, although often through short-term promotions and other restrictions, and it’s not widespread.

“Banks pass on higher interest rates very quickly to borrowers, but are much slower to pass on to those looking to save,” Macmillan said.

Scotiabank is offering a temporary interest rate of up to 4.05% through several time-limited bonuses (some tied to new deposits) in addition to its regular rate of 1.35%. CIBC is offering up to 3.55% interest which then drops to 0.8% after 120 days, from a promotional rate of 1.5% in February which fell to 0.3%.

TD Bank, meanwhile, offers 0.05% interest on balances over $5,000 for its High Interest Savings Account (it offers a separate account that pays 1% on balances over $10,000). $), RBC offers 0.8% for its high interest account, and BMO offers a 1% savings option.

Macmillan said more people moving to alternative lenders could put more pressure on big players.

“As more and more Canadians feel more comfortable shopping around or moving to a bank they may not recognize as much, the big five, big six banks will start to feel that competitive pressure and start more and more to change their rates accordingly.”

Part of the challenge, however, is that banks aren’t so desperate for deposits after Canadians saw savings swell during the pandemic.

“Banks are currently abuzz with liquidity and their deposit levels are still high,” said Carl De Souza, senior vice president of North American Financial Institutions at DBRS Morningstar.

“So there’s less pressure to raise the deposit rate, unless deposits start to drop dramatically or a competitor raises rates.”

De Souza noted that credit unions offer higher rates in part because they are designed to serve members, not just to make profits for shareholders like banks, but there is still some hesitation among consumers.

“Some people may not want to invest in credit unions because they perceive them to be riskier than the big banks, despite the higher rates these credit unions pay.”

Many credit unions, however, haven’t raised their rates much either. Vancity is still offering 0.75% interest on its main accounts because it doesn’t have a large need for additional deposits either, chief financial officer Clayton Buckingham said.

“The way we set rates is really to look at the overall funding needs of the organization.”

The increase in customer deposits has helped meet higher loan demand and cushion the credit union’s need for more funds, but that could change if the market moves further, Buckingham said.

“It depends on the competitive market. It’s driving the majority of moves, so if rates go up in the rest of the banks and credit unions, we need to follow suit.

He said customers are turning instead to Vancity term deposits, which are similar to a guaranteed investment certificate. Commodities, which are more closely tied to bond rates, have climbed much faster than deposit rates, with some institutions offering rates above 5% for longer-term commitments.

Buckingham noted that it is also still early days for inflation in general with huge uncertainty ahead, so financial institutions are proceeding with caution. If deposits continue to fall as people dip into their savings to cover rising costs, financial institutions may have to raise rates to attract deposits, but if demand for loans drops due to economic worries , lenders may not need as much available capital.

“We only see an initial impact of what could happen in a high inflationary environment…for now everyone is still figuring that out.”

This report from The Canadian Press was first published on July 31, 2022.

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