Why Are Interest Rates so Low?

Are you one of the millions of retirees looking forward to earning income from your investments using your retirement savings?  You would be disappointed that the interest rates have been so low in the past few years, and financial experts project that there won’t be any hikes in the next few years.

Low interest rates can be a two-edged sword. On one hand, it can discourage people from saving due to the low income they get from their investments like bank deposits. Some people, for instance, may opt to defer retirement because their savings in banks won’t yield sufficient income for them to sustain their lifestyles.

On the other hand, low interest rates would prompt more people to borrow money for big purchases like houses or cars. When consumers are charged less in interest, they would have more money to spend. When more people are spending money, the economy gets a boost. Even businesses benefit from low interest rates as these institutions are more likely to borrow from financial institutions. Thus, low interest rates can enhance output and productivity.

But of course, your main concern is the low interest rate affecting your retirement savings. The thousands of dollars you had kept in the bank would only leave you a few hundred dollars in income every year, so you need to rely on other sources of money like your pension.

Why are interest rates so low? Here are three reasons:

Flat Growth

Why Are Interest Rates so Low?You can blame the 2007 financial crisis as the root cause of the low interest rate environment today. After the global economic downturn following that crisis, the U.S. Federal Reserve has reduced the short-term interest rates to almost zero. This is in a bid to stabilize the economy of the United States as well as the financial system.

As mentioned earlier, the economy benefits from low interest rates as more borrowers are encouraged to spend their money.  Low interest rates allow families and businesses to borrow money for new spending, and help support prices of assets like stocks and houses.

Changing Demographics

Why Are Interest Rates so Low?The aging population in some of the biggest economies in the world like the United States, China, Japan, and Canada are also affecting interest rates.  Baby boomers tend to save more than spend. This explains why the elderly have a preference for fixed income bonds or savings deposits instead of borrowing.

Again there’s nothing wrong with investing in bonds or keeping your money in banks, but monetary authorities would want money to be used for things that will boost productivity like business investments.

Supply and Demand

Why Are Interest Rates so Low?U.S. consumer borrowing remains sluggish especially when compared to numbers before the financial crisis. For instance, credit card use declined as of August 2014 since households were more deliberate in using their credit cards as income gains remain limited.

While consumer borrowing was up, it registered its slowest pace for the year.  The low demand for borrowing will continue to keep interest rates low to encourage U.S. households to borrow more money.

All these factors considered, it is very unlikely that the interest rates will increase in the next couple of years.  More baby boomers will retire and this would add up to the number of investors looking for income through investments instead of spending their money for purchases that will cause a ripple effect on the economy. Likewise, the slow pace of the U.S. economy will keep households very careful when it comes to borrowing and spending.

Of course, the low-yield environment would have its end. When and how this would happen is something that not even the best financial experts can answer.

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