Will CDs Continue to Pay More Than Savings Accounts if the Fed Cuts Rates?

When inflation started surging in 2021, the Federal Reserve knew it needed to do something about it. After all, the Fed's job is to oversee monetary policy and promote a stable economy. An aggressive inflationary environment is generally not conducive to long-term economic stability.

In 2022, the Fed began raising interest rates to combat inflation. And it worked. Inflation has, thankfully, cooled nicely, leading to much-needed relief at the supermarket, gas pump, and just about everywhere.

Meanwhile, borrowing rates for consumers are still elevated on the heels of the Fed's interest rate hikes. That's not a great thing.

On the plus side, though, CD rates are pretty attractive currently. Granted, so are savings account rates. But many banks are offering a higher rate of interest on shorter-term CDs than savings accounts right now.

Now the Fed is expected to reverse its interest rate hikes at some point. And that point could come later on in 2024.

But how will that impact savers? And will CDs continue to outpace savings accounts from an interest rate perspective?

CDs could still make sense once rates come down

If you take a look at your bank's offerings, you may notice that right now, you can earn a higher rate of interest on a shorter-term CD than a savings account. This may not hold true for a longer-term CD, though, and the reason is that banks are anticipating rate cuts on the part of the Fed. As such, they need to be more cautious in setting rates for long-term CDs.

As one example, right now, Capital One is offering an APY of 4.25% on its Capital One 360 Performance Savings account. It's offering that same APY on 6- and 9-month CDs. But you'll get better APYs on a 1-year or 18-month CD at Capital One -- 4.80% and 4.45%, respectively. And these rates are worth your time -- if you opened a $10,000 1-year CD at 5.00% APY, for example, you'd earn $500 over the year.

CD rates at Capital One, however, start to drop for longer-term CDs. A 24-month CD is only on offer at 4.00%. And if you want a 5-year CD, you're looking at an APY of 3.90%.

In time, these rates are likely to drop once the Fed begins to lower its benchmark interest rate. But at that point, a CD could still make sense, because you're likely to find that CDs will still be paying more than savings accounts.

In fact, once rates fall and then stabilize, you're likely to find that the APY on a 5-year CD is higher than on a shorter-term CD. Granted, in a year or so from now, you may not get as high an APY as you can today. But in time, longer-term CDs could start to pay more than shorter-term CDs.

Do CDs ever pay less than savings accounts?

Sometimes, during a period of plummeting interest rates, CDs can pay less than savings accounts. Why so? It's a matter of risk.

Right now, banks are offering lower APYs on longer-term CDs in anticipation of rate cuts by the Fed. But let's say down the line, rate cuts really start happening in short order, and the Fed's benchmark interest rate starts plummeting. In that situation, some banks might choose to offer a higher interest rate on savings accounts than on CDs to avoid taking on too much risk.

For the most part, though, banks recognize that CDs require a commitment on savers' part. And they know they need to entice customers with some sort of upside. So for that reason, it's common for CDs to pay more than savings accounts in general.

This doesn't mean that every CD a bank offers will have a better APY. But generally speaking, you're likely to continue to find at least one CD term with a more favorable interest rate than a savings account within the same bank.