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Thursday, 12 May 2016
Negative Interest Rates

One of the most talked about financial issues in 2016 is the implementation of negative interest rates by foreign central banks for the purpose of stimulating their stagnant economies.  This deviation from historical monetary policy has caused many to scrutinize the reasons behind the move, opine about future ramifications, and speculate whether negative interest rates might be utilized in the United States. 


A negative interest rate is when a bank depositor pays interest to the bank for holding his/her deposits instead of the bank paying the depositor interest on the account balance.  Negative Interest Rate Policy (NIRP) is determined by a country's central bank.  The central bank manages the nation's currency, money supply, and interest rates and normally prints the national currency.


The Riksbank in Sweden was the first central bank to utilize negative interest rates in 2009.  The European Central Bank (ECB) implemented negative interest rates on June 5, 2014. The ECB further cut rates on September 4, 2014 and December 3, 2015. On March 10, 2016, the ECB reduced rates again, charging banks 0.4 percent to hold their cash overnight.  The Swiss National Bank (SNB) implemented negative interest rates on December 18, 2014.  And now, the Bank of Japan (BOJ) has joined them, announcing negative interest rates on January 29, 2016. Denmark and Switzerland are also experimenting with negative interest rates, with Sweden lowering its bank lending rate from a negative 0.35 percent to a negative 0.5 percent on February 11, 2016.

Arguments for Negative Interest Rate Policy (NIRP)

Some of the reasons foreign nations are experimenting with negative interest rates are to:

  • Stimulate an economy when other options have failed or produced lackluster results
  • Hold back the downward spiral of deflation
  • Lower borrowing costs for businesses and individuals, thereby increasing the demands for loans
  • Encourage investment in private sector businesses
  • Encourage consumer spending
  • Increase the value of the stock market
  • Devalue a nation's currency so that exporters will be more competitive
  • Create expectations of higher inflation, howbeit at a manageable level, which will motivate consumers to spend money now

Arguments against NIRP

Despite the arguments offered for negative interest rates, there are many more arguments that are against them. In a recent QuickTake, Jana Randow and Simon Kennedy indicated the following:

  • It's an unorthodox choice that has distorted financial markets and triggered warnings that the strategy could backfire.
  • "Negative interest rates are an act of desperation. They punish banks that hoard cash instead of extending loans to businesses or to weaker lenders.
  • "If banks make more customers pay to hold their money, cash may go under the mattress instead, robbing lenders of a crucial source of funding. But, there's mounting concern that when banks absorb the cost of negative rates themselves, that squeezes the profit margin between their lending and deposit rates, and might make them even less  willing to lend.

Charles Kane, a senior lecturer in international finance and entrepreneurial studies at the MIT Sloan School of Management, in writing for, notes that even a 0.1 percent negative rate on billions of dollars of deposits could mean the difference between profit or loss for a major commercial bank.  He points out that the European banks, especially the German banks, are already objecting to current negative interest rate levels.  His conclusion on negative interest rates: In the face of continually lowering growth estimates, persistently high unemployment, and a possible Brexit, this is the last thing Europe needs (Brexit is a slang term that refers to the possibility that Britain will pull out of the European Union).

Another argument against lowering interest rates below zero is that negative interest rates is just a euphemistic way of introducing a tax and, in effect, confiscating savings.  Christopher J. Waller, Executive Vice President and Director of Research for the Federal Reserve Bank of St. Louis calls it taxes in sheep's clothing.  He states that the tax has to be borne by someone in one of the following three ways:

  1. The banks can choose not to pass it on and just have lower after-tax profits.  This will depress the share price of banks and weaken their balance sheets by having lower equity values.
  2. The banks can pass the tax onto depositors by paying a lower interest rate on deposits or charging them fees for holding the deposits.  In either case, depositors have less income to spend on goods and services.
  3. The bank can pass the tax onto borrowers by charging them a higher interest rate on a loan or higher fees for processing the loan. In either case, it is more costly to finance purchases of goods and services by borrowing.

Mr. Waller concludes by stating, None of this sounds very stimulative for consumer spending.  But then, no tax ever is.

In an online piece for the New York Times, Neil Irwin warns that negative interest rates could cause damage to the very architecture by which money and credit zoom through the economy, and in turn inhibit growth.  Banks could cease to be viable businesses, eliminating a key way that money is channeled from savers to productive investments.  Money market mutual funds, widely used in the United States, could well cease to exist. Mr. Irwin goes on to quote Herve Hannoun, the former deputy general manager of the Bank for International Settlements, who in a speech last year stated that negative interest rates could over time encourage the use of alternative virtual currencies, undermining the foundations of the financial system as we know it today.

The most extreme consequence of negative interest rates could be the potential elimination of cash itself.  The case for 100 percent electronic transactions is usually sold to the public as a cure for criminal behavior or terrorism, increased cash flow efficiency, lower costs, and preventing tax evasion.  Some even outrageously tout the public health benefit of not touching viruses and bacteria that cling to cash bills. Satyajit Das, a former banker and author of The Age of Stagnation (Prometheus Books), in an article at claims that abolishing cash would require a revolutionary change because cash is still extensively used throughout the world and cash use is especially high among both poor and older people.  He also points out that security and operational risks, such as counterfeiting, cyber-hacking, and disruptions due to technology failures would be considerable.

Jason Scheurer, writing for, point blank states, You can have cash or you can have negative interest rates, but you can't have both.  He includes a graph that shows global debt has increased by over 57 trillion dollars since 2007, outpacing world Gross Domestic Product (GDP) growth.  He states that, The cold reality is that just paying the annual interest cost would be next to impossible for the majority of the world's governments.  And, Rather than dealing with the debt and slowing its growth to levels below the rate [of] inflation, the central bankers' solution is to instead destroy physical cash and punish savers.  He concludes this line of thought with, It is simply much easier for governments to reduce borrowing costs to below zero, eliminating those constraining interest payments, than admit they were wrong and reverse course.  He then includes six steps that have been taken to force the world into a cashless environment:

  1. It is illegal to buy anything in France costing more than 1,000 euros with physical cash.  This number is down from 3,000 euros just a few years ago.
  2. Spain has banned cash transactions above 2,500 euros.
  3. Italy banned cash transactions above 1,000 euros.
  4. Germany's Deputy Finance Minister, Michael Meister, wants a 5,000 [euro] cap on cash transactions.
  5. Former Treasury Secretary, Larry Summers, is calling for ending the $100 bill, and wants Europe to retire the 500 euro [note].  This would effectively remove over 50% of all physical currency currently in circulation in Europe and the U.S.
  6. The head of the European Central Bank, Mario Draghi, along with a growing list of former and current banking officials, is calling for ending the 500 euro [note].

Negative Interest Rates in the United States

With all the what-ifs related to the issue of negative interest rates, the burning question on everyone's mind is, Will the United States follow the world's lead and include negative interest rates in its monetary policy

Janet Yellen, the Federal Reserve chairwoman, in November 2015 stated that negative interest rates could be on the table should economic circumstances dictate.  However, the Fed raised short-term rates from a range of 0% to 0.25% to a range of 0.25% to 0.5% in December 2015 after rates had remained at almost zero since December 2008, citing the improving health of the economy.  Later, during congressional testimony on February 10-11, 2016, regarding negative interest rates, she stated, We are taking a look at them again.  But, Ms. Yellen did note two major issues that would need to be investigated.  One, the legality of negative interest rates "remains a question that we still would need to investigate more thoroughly.  Second, It's also a question of could the plumbing of the payment system in the United States handle it?  Ms. Yellen further stated, "Is our institutional structure of our money markets compatible with it? We've not determined that."

Jared Dillian, a contributor to, thinks that negative interest rates are possible, but unlikely.  He notes that former Federal Reserve Chairman Ben Bernanke also wonders about the legal implications of negative interest rates.  He notes the Fed is required to pay interest rates to member banks.  So, could the Fed get away with paying negative interest rates?  Mr. Dillian thinks the issue is not that simple and could even end up in court for years.


In determining the will they or won't they/should they or shouldn't they debate regarding negative interest rates, the two opinions in the following paragraph seem to have the proper perspective.

Dan Celia, host of the nationally syndicated radio talk program "Financial Issues", in a commentary for, stated, "We must have an economy built on strength and consumer confidence.  And the only way this can happen is for Central Banks and governments to stay out of it.  The government's only responsibility should be creating an environment that is good for the country."  He further states that, "We need to create an environment where the government or a Central Bank is not propping up anything."  Louis Rouanet, a student at Sciences Po Paris (Institute of Political Studies) seconds the argument in his blog asserting, "The allegation that negative interest rates are somehow natural or answering to the needs of the economy is absurd, and without the interference of central banks and governments, the negative interest rate topic would be non-existent."


Posted on 05/12/2016 5:49 PM by Ronald Neal
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