Collectively, we have in excess of a record €120 billion on deposit in Ireland, but the return on savings has never been lower
Collectively, we now have over €120 billion in savings and deposits in various institutions.
A recent survey of savers by Bank of Ireland indicated that people are likely to continue saving over the next 12 months.
The irony, though, is that the return to be made on amassing piles of cash is negligible at the moment because of the interest rate environment.
Rates have been at rock bottom since the middle of the last decade as the European Central Bank launched numerous stimulus measures – including interest rate cuts – in an effort to stimulate the euro zone economy as it recovered from the last downturn, and to nudge inflation upwards.
The intention of rate cuts was to encourage corporates and households to borrow money at reduced rates and to spend the money that they have rather than saving it.
By cutting rates to zero, the return on hoarding cash is zero. The general thesis is that there’s no point in keeping it, so the logical move is to spend it, and in turn help stimulate the economy.
Since the pandemic, Europe has doubled down on that message with the ECB launching even more accommodative measures in an effort to further stimulate economic activity.
That’s great news for governments that can borrow and run deficits, as they’re being told to do by the European institutions.
It’s also good for mortgage holders, who are seeing some – arguably limited – benefit from low rates, but it’s not so good for a growing sector of the population who appear to be building significant cash piles.
So why are we collectively squirrelling away money when policy, and logic, dictates that we should be doing otherwise?
Once bitten, twice shy
There are two intertwining elements at play in the enhanced savings environment at the moment, according to Austin Hughes, chief economist with KBC Bank Ireland.
There’s ‘forced savings’, arising from fewer spending opportunities because of pandemic restrictions, and there’s fear, borne mainly of a trauma that’s still fresh in the national psyche.
“The pain of the financial crisis has taught people that credit is not an easy way towards improved living standards,” he said.
“There’s been a very significant shift in attitudes among Irish consumers that reflects that pain. That’s a long-term trend that will remain in place and it’s aggravated by different elements. You have the more cautious approach from lenders and you have a population that’s slightly older and more inclined towards saving.”
He said the ‘fear factor’ had been reignited to a certain extent by the pandemic, resulting in more people putting even more money aside and, until there is a clear path back to ‘normality’, that would likely persist.
There’s also a theory among economists that when interest rates are low, people will paradoxically put more money on deposit.
They have a savings target in mind and they realise that, with rates at all-time lows and showing no signs of increasing soon, they need to put more money aside to compensate for that lack of compounding.
Is depositing money just the lazy option?
For those saving up to buy a house or with other financial goals in mind, it’s good practice to put the money aside in an account where, even though it’s not making any return, it’s safe and accessible when needed.
For those just simply building a nest egg, or saving towards old age or for educational needs, it generally pays to be a bit more adventurous.
“Banks are paying lower than the rate of inflation at the moment, so the capital that you’re putting on deposit is decreasing in value because of inflation,” Frank Conway of Moneywhizz and founder of the Irish Financial Review points out.
“You have to invest to grow.”
He recommends that people aim to have between three and six months of living expenses at their disposal in the form of a ‘rainy-day fund’.
Beyond that, there’s what he refers to as the 50:30:20 rule – 50% of take-home pay going towards life’s needs, 30% on ‘wants’ and 20% into savings.
What could you do if you’re lucky enough to have excess cash?
Leaving excess money sitting in a deposit account doesn’t help anyone, according to Frank Conway.
For the saver, the money is losing value because it’s effectively being eroded by inflation.
When it comes to banks and credit unions, they’re getting hit with negative interest rates when they deposit that money in the wider banking system, a development that has prompted some credit unions to write to customers telling them that they are limiting deposits to a certain threshold, in some cases as low as €10,000.
Banks have started levying negative interest rates on corporates and some larger SMEs. Wealthy individual customers with large deposits are being warned that they too may be hit with negative interest rates in the future.
Frank Conway suggests that there are numerous ways of making better use of spare money, from investing it, to paying off a mortgage or putting it into a pension fund.
“Pensions are a great way to get your money to work. You can get up to 40% tax relief on your contributions. An employer can match your contributions and that doesn’t eat into your tax limits,” he explained.
For those who don’t have access to an occupational pension scheme, the same benefit applies to a Personal Retirement Savings Account, or PRSA.
Paying off a mortgage is particularly attractive for some, he pointed out.
“I wouldn’t be doing it for a tracker, but for a standard variable rate, you can pay down any amount once you let the lender know.”
“It’s a great way of reducing the mortgage, especially if you pay a rate as high as 3.5 or 4%. You can save quite a bit of money over the lifetime of the mortgage,” he explained.
Not everyone is hoarding cash
This is an important point that can often get lost in the headline figures from official bodies like the Central Bank and the Central Statistics Office.
While the overall level of savings is on an upward path, not everyone is in a position to put money aside at the moment.
In fact, the latest Central Bank household wealth figures indicated a mismatch between those doing the saving and those who are struggling to make ends meet at the moment, reflecting the ‘K-shaped’ economic recovery that’s been spoken of widely in recent months.
The report noted that the unemployment rate had increased to 5.2% in June and overall pay fell by €2.1 billion in the second quarter of this year as people were laid off in large numbers due to the pandemic.
There was a €4.4 billion rise in Social Transfers, largely accounted for by the Pandemic Unemployment Payment (PUP), and subsidies – the Temporary Wage Subsidy Scheme (TWSS) – in the three-month period.
“The savings rates are a one figure summary of what’s happening right across the spectrum of consumers and businesses,” Austin Hughes said.
“This is definitely an unequal opportunity economic shock. People are struggling and they’re dipping into their savings and they are borrowing more because of what’s happened, just to keep their heads above water.”
Will cash piles gradually reduce as the economy reopens?
Launching the July stimulus earlier this year, the Taoiseach and the Tánaiste referred to the significant amounts of money in the economy that people had saved during the early days of the pandemic restrictions.
Some of the stimulus measures contained in the summer package were designed to release some of those ‘pent-up’ savings, they said, including the Stay and Spend Scheme that offers a tax credit of up €125 on hospitality related spending up to a value of €625.
The measure came into effect in October but didn’t get the chance to take off due to new waves of restrictions that came into effect across the country later that month.
There was also the reduction in the 23% VAT rate to 21% for a period of six months, a measure designed to encourage retailers to drop prices and entice consumers to spend, which was followed in the budget by the cut in the VAT rate for the hospitality sector from 13.5% to 9%.
“‘Pent-up’ implies that people can’t wait to spend that money,” Austin Hughes said. “You will only get people to spend by convincing them that the worst is over.”
“Caution is going to remain and, while there was an element of pent-up demand when outlets opened in the summer and you had queues outside Penneys, for example, the second wave of restrictions led many people to view this as a lasting feature of the economy and that precautionary stance is going to be significant.”
Mr Hughes said it was likely that some of the money would be gradually eased back into the economy over time, but in light of a more cautious consumer, and with a trend towards higher savings overall, it’s likely the pandemic will just serve to amplify an existing trend.
Frank Conway believes confidence will return over time and that people will spend once they get their economic bearings again.
“We’ve had two traumatic events in the last decade and that makes people more wary, more conservative and this behaviour is showing, not just in Ireland, but everywhere else.”
He said the best way to entice people to spend is to incentivise them to do so.
“That is buying homes, moving homes and buying goods and services and incentivising them through tax mechanisms. That’s the only way you can do it.”
He suggested that there were state measures that the government could introduce to encourage people to invest in the future of the country, such as public infrastructure bonds, of which there are many historical precedents.
In the meantime, people continue to wait for certainty and those that have the cash are holding on to it.