Fed rate action impacts CUs

WASHINGTON (11/5/09)--Wednesday's decision by the Federal Open Market Committee (FOMC) to stay the course and keep the fed funds target interest rate between 0%-0.25% will maintain a steep yield curve for a while longer, and that will impact credit unions, says a Credit Union National Association (CUNA) economist.

"For those credit unions with strong loan demand, this should increase net interest margins as low-rate short-term deposits are used to fund longer-term higher-rate loans," said Steve Rick, senior economist at CUNA. "The higher net-interest margins should help financial institutions cover loan chargeoffs and earn their way out of the current financial crisis," he said. The FOMC has held the benchmark lending rate close to zero since December, while using asset purchases as its main policy tool. The Fed's last monetary stimulus helped fuel 3.5% growth during the third quarter (Bloomberg.com.

"Credit unions have responded to the historically low short-term market interest rates by slashing their deposit interest rates," Rick told News Now. "The average interest rate paid on credit union regular share accounts was 0.54% in September, down from 0.93% in September of 2008. Money market account interest rates fell to 1% from 2%, while share certificate rates fell from 3% in September 2008 to 2% today.

"Low interest rates on savings have not discouraged credit union members from increasing their deposit balances. During the first nine months of 2009, credit union savings balances rose 8.6%, faster than the 4.8% reported for the similar period last year. This has increased credit union liquidity and credit union investment portfolios," he said.

"This change in the distribution of assets from loans to investments is putting significant downward pressure on asset yields for those credit unions with weak loan demand," Rick said.

In addition to keeping the federal target bank lending funds rate at 0% to 0.25%--as expected--FOMC said the Fed would inject nearly $2 trillion in the economy through purchasing agency mortgage-backed securities (MBS) and agency debt.

In its announcement, the FOMC noted that economic activity has continued to pick up and that conditions in financial markets were roughly unchanged with household spending remaining constrained by ongoing job losses, sluggish income growth, lower housing wealth and tight credit.

"Although economic activity is likely to remain weak for a time, the committee anticipates that policy actions to stabilize financial markets and institutions, fiscal and monetary stimulus, and market forces will support a strengthening of economic growth and a gradual return to higher levels of resource utilization in a context of price stability," the FOMC said after the meeting.

"With substantial resource slack likely to continue to dampen cost pressures and with longer-term inflation expectations stable, the Committee expects that inflation will remain subdued for some time.

The Fed "will continue to employ a wide range of tools to promote economic recovery and to preserve price stability," it said, noting that the target rate is "likely to warrant exceptionally low levels of the federal funds rate for an extended period."

FOMC also announced the Federal Reserve will purchase a total of $1.25 trillion of agency MBS and about $175 billion of agency debt. The amount of the agency debt purchases "is consistent with the recent path of purchases and reflects the limited availability of agency debt," said the FOMC.

It "will gradually slow the pace of its purchases of both agency debt and agency mortgage-backed securities and anticipates that these transactions will be executed by the end of the first quarter of 2010.

"The Committee will continue to evaluate the timing and overall amounts of its purchases of securities in light of the evolving economic outlook and conditions in financial markets. The Federal Reserve is monitoring the size and composition of its balance sheet and will make adjustments to its credit and liquidity programs as warranted," said the announcement.

Resource Links

The Fed announcement

Daily Financial Rates

CUNA Economics and Statistics