The Undoing of 100 Years of Yield Theory
The study, co-authored by Dr. Dan Geller and Professor Nahum Biger, was validated by a double-blind peer review of two international organizations of economics and finance research: 1) The International Conference on Business and Economic Development, , and 2) The International Conference on Economics, Finance and Management Outlooks.
The far reaching implications of this study (full details at the end of the article) are that rates and balances of deposits do not operate in a vacuum, and they are greatly impacted by behavioral economics factors. Thus, any model for forecasting and pricing of deposits must include behavioral economics as a mediating variable. Otherwise, the outcome of the model is likely to be false.
Figure 2 shows how during the pre-recession period (2003-2007), balances of liquid accounts (checking, savings and money market) increased by 39.3% while average APY of liquid accounts increased by 44.7%. Similarly, balances of term accounts increased by 50.04% and average APY of term accounts increased by 117.0%. Most importantly, as we will see later, the ratio between the average APY of term accounts (0.48%) and the average APY of liquid accounts (2.78%) was 5.79.
Money anxiety is a common and normative response to economic and financial uncertainty. This is according to the latest survey by the American Psychological Association (Figure 4), which shows that money anxiety tops the categories causing stress and anxiety in the U.S. Moreover, about 7 of 10 people reported having money anxiety on a regular basis, and we can clearly see how the level of money anxiety increased during and in the aftermath of the Great Recession.
Implications on interest expense
Problem: Financial institutions tend to misprice deposits because they do not incorporate behavioral economics factor when forecasting and pricing their deposits.
Solution: Deposit pricing models should include behavioral economics factors to ensure that interest rates are optimal for the economic environment. Otherwise, unnecessary interest expense can put the financial institutions at risk of low net interest margins.
Implications on term liquidity
Problem: Diminishing yield gravity during economic slowdown will prevent financial institutions from complying with Basal III Net Stable Funding Ratio (NSFR) requirement of one-year liquidity.
Solution: Financial institutions can’t rely on yield alone to attract term liquidity during economic slowdown (high money anxiety). Product features and other non-yield incentives should be used instead.
About Dr. Dan Geller
Dr. Dan Geller is a behavioral economist who pioneered the research and application of behavioral economics to the banking services. Through his research firm, Analyticom, He provides banking executives with scientific forecasting and pricing tools enabling them to improve financial performance.
Dr. Geller is the author of the behavioral economics book Money Anxiety which was named a “must read book” by Business Insider. He a frequent speaker and media guest, appeared on national TV and radio, such as CNBC and Fox, and delivered the keynote address at the American Banker's Symposium.
About Professor Nahum Biger
Professor Nahum Biger is an Emeritus Professor of management and financial economics. He received his Ph. D. from York University in Toronto and published more than 70 articles in academic journals. He published five books and conducted numerous consulting reports. Professor Biger was the founding Dean of the Graduate School of Business at the University of Haifa, Israel and served at that capacity for 8 years.
Professor Biger was sent on several missions of the World Bank to Botswana and to Chile. He is a regular economic advisor to governments and to courts of law as an expert on economic and financial issues. Professor Biger was and continues to act as a visiting professor at top universities. He was a visiting professor at Northwestern University, University of California at Davis, University of Cape Town, University of Rotterdam and the Peter Drucker Graduate School of management in Claremont, California.