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Banks and so-called thrift institutions, which are savings and loan associations and savings banks,* have been able to do very little to stop the hemorrhaging of money out of their vaults, because Government regulations do not let them offer interest rates that can keep up with inflation.
Congress first imposed a limit on bank savings interest in the Banking Act of 1933. The great disparity in interest rates offered by various banks had led to sharp fluctuations in deposits and had hastened the failure of many institutions at the beginning of the Depression. In addition, the act was seen as a way of punishing the banking industry, which was held responsible by much of the public for bringing on the collapse of the financial system. The Federal Reserve's Regulation Q gives the Government the authority to fix the level of interest paid by banks. Thrift institutions are permitted to pay ¼% more as a way of attracting funds for the home mortgages that they normally provide. At present, banks pay 5¼% and thrifts 5½% on passbook accounts.
Until this year, federal regulations prevented banks and thrifts from giving interest on checking accounts, and most thrift institutions could not even offer checking. Finally, Government rules do not permit these financial institutions to run full consumer services outside their home states.
Because of the restraints on traditional savings institutions, new financial services have grown up that will pay higher interest while also providing many banking services like savings and checking accounts or loans. The most significant of these: money-market funds. The first of them was started by the mutual-fund firm Reserve Fund Inc. in 1972. The flexible savings accounts now have more than 6 million shareholders and assets of $117.8 billion.
Money-market funds are massive investment pools run by large brokerage houses or mutual-fund firms, which are not subject to the Government's interest-rate laws. The fund managers buy high-interest, short-term money-market instruments, such as U.S. Treasury bills, commercial paper and bank certificates of deposit. Since the securities mature within 30 days to one year, the funds have a dependable flow of cash for paying off investors who want to withdraw their money.
From the consumer's point of view, a money-market fund is not much different from a checking account. In most cases people can write checks for the monthly mortgage payment or for college tuition against an account, though some funds require that checks be written for a minimum of $500. The great attraction, of course, is the high interest, which last week averaged about 16%. Says Houston Attorney Clarence West: "My money-market fund pays three times as much as a savings account would, and I can get my money out with no penalty." Adds Anne Chambers, a New York television producer: "When interest rates hit 13%, I decided to join the money funds."