04/21/2011 03:27 pm ET Updated Jun 21, 2011

Bank Of America Makes Easy Profits Off Fed While Depositors Get Shortchanged

Households are earning so little from their bank accounts that Bank of America, the largest U.S. lender, has pocketed about twice as much cash this year parking money at the Federal Reserve than it has paid to savings-account holders.

The North Carolina-based bank paid U.S. depositors a 0.43 percent interest rate last quarter, according to earnings documents the company released last week. Savings-account holders took home even less, with total interest on their accounts reaching just $32 million for the three-month period ending in March.

Meanwhile, Bank of America raked in $63 million simply by stashing cash at the Fed. The nation's central bank only recently began compensating commercial banks for storing their money at the Fed as part of its response to the financial crisis.

Thanks to Fed policy and banking industry consolidation, the largest banks are booking easy profits as households and businesses plow record amounts of cash to lenders despite a record-low rate of return. Rather than lending that cheap money out to consumers or small businesses, banks are either investing it or hoarding it at other institutions, where they earn a much higher rate than what they pay their own customers.

Bank of America's $1 trillion in deposits worldwide cost the firm just 0.33 percent last quarter, down from 0.46 last year, including non-interest bearing accounts. Americans stored about $713 billion at JPMorgan Chase as of March 31, but the second-largest U.S. bank only paid a 0.53 percent rate on interest-bearing deposits, a figure that shrinks to about 0.3 percent when all deposits are considered. Citigroup, the third-largest bank, continued to reduce the rate it paid its depositors even though the yield it earned from its own deposits continue to rise, while Wells Fargo, ranked fourth in total assets, lowered the amount it paid depositors to just $615 million, a figure eclipsed by the $1 billion in service fees it charged those very same customers.

All the while, deposits at these four firms continue to increase as consumers "hoard powder for a rainy day," said Greg McBride, senior financial analyst at Analysts at Barclays Capital call it "lazy" money, according to an April 8 research note for clients.

Charles H. Noski, chief financial officer at Bank of America, told analysts last week that the lender's commercial customers "continued to prefer to hold rather than invest cash."

The amount of readily deployable cash sitting idle in U.S. accounts reached a record $5.9 trillion in March, according to Market Rates Insight, a California-based data provider. That cash, which doesn’t include certificates of deposit, was earning an average of less than 0.5 percent interest, the research firm said.

Asked last week how his bank funded an increasing amount of investments in various securities, which led to increased earnings, JPMorgan Chase chief executive Jamie Dimon pointed to rising deposits.

Dimon’s firm saw the rate it earned from other banks for deposits nearly double to 1.11 percent over the past year, company records show. During the first quarter of 2010, the rate it earned versus the rate it paid its own depositors differed by just 0.09 percent. In a year, that spread increased six-fold.

Record deposits have enabled banks to reduce their costs to record lows. Deposits now make up about 80 percent of the industry's liabilities, up from 72 percent in 2007, according to Market Rates Insight. For the first time since 1962, banks last year paid less than 1 percent annually for their funds, Federal Deposit Insurance Corporation data show. In 2007, banks paid 2.76 percent.

The biggest banks paid even less. Lenders with at least $10 billion in assets paid just 0.77 percent for their funds during the three-month period ending in December, nearly half a percentage point less than banks with fewer than $1 billion in assets, according to the FDIC.

Experts point to increased consolidation in the banking industry and the rise of so-called Too Big to Fail banks. As of Dec. 31, the nation's four largest banks held 48 percent of the industry's assets, Federal Reserve data show. In 2001, it took 16 banks to achieve such a grip over the industry.

Today, banks boast about their low cost of funds.

Bank of America said its "solid deposit growth" coupled with what it termed "disciplined pricing" enabled it to bring down its overall deposit rates to 0.33 percent, a point it highlighted in a presentation to analysts.

Wells Fargo told analysts about its "continued strength in attracting low-cost deposits," which has enabled the nation's largest home-loan lender to bring down its overall cost of deposits to just 0.30 percent interest.

"The deposit growth continues to be beyond our expectations and we're really, really pleased with that growth," said Timothy J. Sloan, Wells Fargo's chief financial officer. Deposits averaged about $841 billion last quarter, up 4.6 percent since the same period last year.

For Wells Fargo, that increased cheap funding has resulted in higher returns. About 60 percent of the lender's $1.1 trillion in interest-earning assets is funded by interest-bearing deposits that yield just 0.38 percent. Those assets include credit card accounts that yield 13.2 percent, mortgage-backed securities that yield 9.7 percent, and municipal obligations that generate about 5.5 percent in interest.

At Bank of America, surging deposits enabled the lender to earn $88 million in interest last quarter for the cash it parked at other banks. While depositors at the lender have seen their rates slide, BofA has been earning more for its own deposits at other institutions. Last quarter, BofA earned 1.14 percent on its own cash at other banks, up from 0.89 percent during the same period last year.