Are the negative interest rates being charged by central banks from Denmark to Japan having any positive effect? Are the dangers outweighing the benefits?
Even central bankers themselves can’t seem to agree on the question, even though the European Union has had negative interest rates since June 2014.
The question took on a much more urgent tone in the US when Fed Chairperson Janet Yellen refused to rule out implementing negative rates to spur the economy.
One of the most dovish Federal Reserve regional presidents in years was the recently retired head of the Minneapolis Fed, Narayana Kocherlakota. He has urged his former colleagues to not only roll back December’s rate hike, but to go to negative rates. He blames the failures of Obama and Congress to put together a sensible fiscal policy as the reason the Fed is now forced to consider negative rates.
Another retired Fed official, former Chairman Ben Bernanke, has also come out in favor of negative interest rates, but only to combat the next recession. Of course, Mario Draghi and a majority at the European Central Bank believe that negative interest rate policy (NIRP) can cure the financial ails of the EU, especially deflation. However, since rates went below zero in the European Union in June 2014. inflation has been negative seven times. January inflation was -0.2%.
Denmark, which started charging negative interest rates in July 2012, saw a 0.6% inflation rate in January. The Swiss National Bank set interest rates below zero in December 2014, but has been in a deflationary spiral for the last 15 months. January’s inflation rate was -1.3%. Sweden, which has had NIRP for only a year, has seen deflation four times since. January inflation climbed to 0.8% on much higher prices for consumer goods and services.
These three nations were not looking specifically to fight deflation. They had to go negative to maintain a currency ratio pegged to a plummeting euro, cementing the status of negative interest rates as the “weapon of mass destruction” in the currency wars, according to Deutsche Bank. It notes that NIRP does not stimulate the economy. It only devalues the currency without providing growth.
Kuroda’s Bank of Japan just went to negative rates in late January, but hasn’t had any effect on inflation so far. One early effect has been a surge in purchases of home safes as consumers withdraw their money from banks. Kuroda has announced plans to go deeper into negative territory if he feels it is needed.
If so, he will not have the unanimous support of the board. A minority in the 5-4 decision to cut interest rates below zero expressed concerns that it would only increase volatility and uncertainty in the markets, since there is no theoretical limit to how low below zero you can set rates. They also warm of a global race down a bottomless pit of negative interest rates in response to Japan’s moves.
There is already speculation that the ECB will cut rates even more below zero as are result of NIRP in Japan, starting a full-blown currency war that the US would have no recourse but to join in.
The dissenting board members at the Bank of Japan have some illustrious allies. Mark Carney, the governor of the Bank of England, noted the dark side of NIRP. He said that the resulting currency wars are a zero sum game. “pulling the global economy closer to a liquidity trap.”
Former Fed Chairman Alan Greenspan also came out recently against negative interest rates, noting that they distort the markets and cause a “misuse of capital.” He opined that the problem with the economy was that productivity has stalled, and entitlements had ballooned.
The vice-governor of the Czech central bank said he would back “helicopter stimulus” (giving money directly to the public to spend) or devaluing the currency to stimulate the economy before he would agree to negative interest rates.
Banks are seeing profits shrink due to negative rates, as central banks force them into issuing more risky loans to avoid excess reserves charge. Some are passing the expenses of negative rates to depositors, in the form of fees. If rate go more negative, money may begin to exit the financial system and ending up “under the mattress.”
Billionaire investor Warren Buffett, noting the money his European insurance companies are losing due to deposit fees, said that Berkshire would be better off stashing cash in a giant mattress instead of banks if only he could find a trustworthy person to sleep on top of a billion euros.
Bank CEOs and financial analysts are warning that negative interest rate policy will have the opposite effect than what the central banks want. As deposit accounts at are pulled from banks to avoid fees, these banks will have less capital. This means fewer loans, not more, will be made. Negative rates may also destroy the multi-trillion dollar US money market sector, which businesses depend on for short term liquidity, by eliminating profit margins.
So far, the experience on the ground has shown that negative interest rate policy is not doing what the central bankers wanted or expected. Another unintended effect is that the markets and public now have less confidence that the central banks even know what they’re doing, after resorting to such a desperate measure.
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