For the past year, I’ve been keeping a close eye on the unemployment rate because it is the key economic indicator of when the Federal Reserve will raise interest rates, which will ultimately affect the rates offered by deposit accounts. Like all the savers out there, I’m eagerly awaiting the day when my savings account pays more than a meager 1.00% APY. However, those days may not come as soon as expected.
Revealed in the December 2012 Fed meeting, the target unemployment rate of 6.5 percent was marked as the trigger for a rate hike, which would lead to rising rates on all deposit accounts. In the 11 months since the announcement, the unemployment rate has fallen from 7.8 percent to as low as 7.2 percent (September). Originally, central bankers expected that target rate to be met in mid-2015.
More recently, it appears that some members of the Federal Reserve are reexamining the 6.5 percent unemployment rate in its forward guidance, despite the gradual progress of the jobs market.
“Several participants were willing to contemplate lowering the unemployment threshold if additional accommodation were to become necessary,” the Fed said according to the minutes following its July 2013 meeting.
Jan Hatzius, an economist at Goldman Sachs, predicts that the central bank will reduce the target unemployment rate for rate hikes following its March 2014 board meeting.
Additionally, a recent paper by three Federal Reserve Board members argue that the unemployment threshold could be revised to as low as 5.5 percent.
At the pace that the jobs environment has improved in the past year, we may reach the 6.5 percent unemployment threshold as soon at late 2014, roughly half a year earlier than projected. But, if the Fed decides to lower that unemployment threshold, we’re looking at many more months, or years, of extremely low rates on deposits.
Assuming that the Fed does drop the threshold to a 5.5 percent unemployment rate, rate hikes may not come until 2016. That means an extended period of time in which savers will watch their cash earn very little in interest.
However, the bright side is that borrowing rates are also likely to remain lower for some time.
As an avid saver myself, a longer period of low rates means I’m going to continue routing more funds into riskier investments. It means putting more into a taxable account if tax-advantaged accounts are already maxed out (the stock market has been performing well). It also means funneling more money into alternative investments, like peer-to-peer (P2P) loans.