Banks pay low rates on savings because they don't need your money as urgently as they once did

A savings account at most banks pays between 0.01% and 0.05% annually. That means $10,000 sitting in the account for a year earns $1 to $5. The reason is straightforward: banks have other, cheaper ways to fund their lending now, so they have little reason to compete for deposits by offering higher rates.

When the Federal Reserve sets its benchmark interest rate low—which it has done for extended periods since 2008 and again from 2020 to 2022—banks follow. But the connection is not automatic. Banks choose their own deposit rates based on how much money they need and what they have to pay to get it. When deposits are plentiful and borrowers are scarce, banks lower what they offer on savings. When the opposite is true, rates rise.

The gap between what the Fed charges banks and what banks pay you is called the spread. That spread has widened over the past decade. Banks are keeping more of the difference, which means your rate falls even when the Fed's rate stays the same or rises.

Key Takeaways

  • Banks set their own savings rates based on how much deposit money they need, not solely on what the Federal Reserve does.
  • When deposits are abundant and loan demand is weak, banks lower savings rates because they can afford to.
  • Online banks and credit unions often pay higher rates than traditional banks because they have lower overhead costs and compete differently for deposits.
  • The spread between the Fed's rate and what you earn has grown wider, meaning banks keep more profit from the difference.
  • Your savings rate can change at any time; banks are not required to notify you in advance of a decrease.

How banks use deposits and why they need them less

A bank's core business is borrowing money from depositors (you) at one rate and lending it to borrowers at a higher rate. The difference is profit. When a bank has plenty of deposits already, it does not need to offer higher rates to attract more. It can lower what it pays you because you have few alternatives that are equally safe and liquid.

Over the past 15 years, banks have also become less dependent on deposits. They can borrow directly from the Federal Reserve, from other banks, and from wholesale money markets. These alternative funding sources often cost less than paying depositors a competitive rate. A bank can borrow overnight funds at the Fed's discount window or tap the repo market for short-term cash. When those options are cheaper than raising deposits, your savings rate falls.

Additionally, many large banks have more deposits than they can profitably lend out. Deposits have grown faster than loan demand in many periods, leaving banks with excess cash they do not need. When a bank is flush with deposits, lowering the rate you earn costs them nothing—they straightforward keep the money they would have paid you.

The role of Federal Reserve policy and the spread

The Federal Reserve does not set the rate banks pay on savings accounts. It sets the federal funds rate, which is the rate banks charge each other for overnight loans. When the Fed raises or lowers this rate, banks typically adjust their lending rates (mortgages, car loans, credit cards) fairly quickly. Savings rates move much more slowly, and often in the opposite direction of what you might expect.

When the Fed raised rates aggressively from 2022 to 2023, many traditional banks kept savings rates near zero for months. Online banks and some credit unions raised their rates when ready. This created a visible spread: the difference between what the Fed's benchmark rate was and what you actually earned. That spread widened because banks could afford to ignore depositors while still attracting enough money.

The spread exists because banks have market power. You cannot easily move your money to a competitor if the rate drops by 0.01%, so banks know they can lower rates without losing many customers. Online banks, which compete primarily on rate, have narrower spreads. Traditional banks, which rely on branch convenience and brand loyalty, can maintain wider spreads because customers are less rate-sensitive.

Why online banks and credit unions pay more

Online banks typically pay 4 to 5 times what traditional banks pay on savings accounts, even when the Fed's rate is the same. They do this because they have no branch network, no tellers, and no physical real estate. Their cost per deposit is much lower. They also compete almost entirely on rate—if they do not offer the highest rate available, customers have no reason to choose them.

Credit unions operate under a different structure. They are member-owned cooperatives, not shareholder-owned corporations. They do not have to maximize profit; they can return earnings to members through higher rates. Many credit unions also have lower funding costs because their members are more loyal and less likely to move money chasing a 0.1% rate difference.

The tradeoff is access. An online bank has no branch you can walk into. A credit union may require you to live or work in a specific area or belong to a specific employer or organization. But if you can meet those requirements and do not need in-person banking, the rate difference is substantial over time.

What happens when the Fed raises rates

When the Federal Reserve raises its benchmark rate, savings rates eventually rise—but the timing and size of the increase depend on competition and bank funding needs. If the Fed raises rates and loan demand increases, banks need more deposits to fund those loans. They will raise what they pay you to attract and keep that money. If the Fed raises rates but loan demand stays flat, banks may not raise deposit rates at all.

The 2022–2023 period showed this clearly. The Fed raised rates from near zero to over 5% in about a year. Online banks raised their savings rates to 4–5% within weeks. Traditional banks took months to move, and many never matched online rates. Some customers who stayed with traditional banks earned 0.05% while online customers earned 4.5% on the same amount of money. Over a year, that difference was hundreds of dollars on a $10,000 balance.

Banks are not required to notify you before lowering your rate. They can change it at any time, though most will disclose the change in your account statements or online portal. If you are earning a very low rate, it is worth checking what competitors are offering every few months.

The cost of safety and liquidity

Part of the reason savings account rates are low is that savings accounts are extremely safe and liquid. Your money is insured by the FDIC up to $250,000 per account type per bank. You can withdraw it when ready without penalty. You take no risk of loss. That safety and liquidity have a cost—the bank pays you less because you are not taking any risk.

If you were willing to take risk or lock your money away, you could earn more. A certificate of deposit (CD) locks your money for a set term and typically pays 0.5 to 1 percentage point more than a savings account. A money market account may pay slightly more than savings but requires a higher minimum balance. A Treasury bill or bond pays more because the U.S. government could theoretically default (though the risk is extremely low). Stocks and bonds pay more because you could lose money.

The low rate on savings accounts is partly a reflection of the fact that you are paying for safety and access with lower returns. Banks know this and price accordingly.

How inflation erodes savings account returns

When inflation is higher than your savings rate, your money loses purchasing power. If inflation is 3% and your savings account pays 0.05%, you are effectively losing 2.95% of your money's value each year. This is not a bank problem—it is a math problem. But it matters for your financial planning.

During periods of high inflation, the gap between what you earn on savings and what prices are rising becomes painfully obvious. From 2021 to 2023, inflation ran 3–8% while traditional bank savings rates stayed near zero. Customers who moved money to online banks or CDs earned rates closer to inflation, which helped preserve purchasing power. Those who stayed with traditional banks saw their savings lose real value.

This is why checking your savings rate periodically matters. If your rate has not changed in a year but inflation has, you are losing ground. Moving money to a higher-paying account takes 5 to 10 minutes and can add hundreds of dollars annually to what you earn.

Frequently Asked Questions

Will my savings account rate go up if the Fed raises rates again?

Probably, but not when ready and not by the same amount. Online banks typically raise rates within weeks of a Fed increase. Traditional banks may take months. The size of the increase depends on how much competition exists and how badly banks need deposits. You are not may provide to see the full Fed increase reflected in your rate.

Can a bank lower my savings rate without warning?

Yes. Banks can change deposit rates at any time without advance notice, though most disclose changes in statements or online. You should check your rate every few months, especially if you have not seen an increase during a period when the Fed raised rates.

Is my money safe in a low-rate savings account?

Yes. The FDIC insures deposits up to $250,000 per account type per bank, regardless of the interest rate. A low rate does not mean the bank is unstable. It means the bank does not need to compete for your money.

Why do online banks pay so much more than big banks?

Online banks have no branches, tellers, or physical locations, so their cost per deposit is much lower. They also compete almost entirely on rate because they offer no other advantage like convenience or brand recognition. Traditional banks can afford lower rates because customers stay for reasons other than interest.

Should I move my money to an online bank for a higher rate?

That depends on whether you need in-person banking and whether the higher rate is worth the switch. If you rarely visit a branch and can manage your account online, the rate difference can add up to hundreds of dollars per year. If you value having a physical location nearby, the convenience may be worth the lower rate.