Since the middle of September, the European Central Bank has been paying commercial banks the princely rate of minus 0.5% on any deposits kept there – deposit €100 and they will return €99.50. Only banks can deposit at the ECB, so this generous offer is not available to the likes of you and me. What does a bank do if they suddenly enjoy an inflow of deposits? They cannot find retail borrowers in a hurry, so the only options are to lend on to another bank, buy short-term treasury bills issued by the government, or deposit the extra cash with the ECB, paying them for the privilege. But interbank rates have been driven below zero: the ECB lends to banks at zero, so no cash-deficit bank will pay anything to borrow from another. Short-term rates on government debt have also gone negative, sucked into the ECB’s black hole.
In a deep downturn, even zero interest rates may not stimulate credit demand and economic recovery
Welcome to the Alice in Wonderland of negative interest rates, the response of many central banks around the world to slowing economic activity and near-zero inflation. The idea is to stimulate economies through cheap money. The trouble is that the patient is not taking the medicine and there has been no upsurge of demand for credit, at least not from anyone you might want to have as a borrower. As a result, if you offer to deposit a windfall down at your local bank branch, they will not be pleased to see you. You will cost them money, even if they pay you zero interest, since the immediate impact is higher deposits for the bank at the ECB. This is one of the reasons bank shares have been falling around Europe over the last couple of years – it is difficult for bankers to turn a profit when prevailing interest rates are so low and solid borrowers so scarce. When the ECB buys government and corporate bonds in the market, the policy of quantitative easing means commercial bank balances at the central bank rise, costing them money.
Low interest rates
The problem of persistent deflation has been around the longest in Japan. The country has been stuck in a low interest trap since the early 1990s and the expectation of early deliverance in the Eurozone has faded after just a few years of unorthodox policy. Economists have suspected since the 1930s that funny things happen if the economy gets stuck in what used to be called a ‘low level liquidity trap’. At hearings in Washington in 1935, midway through the Great Depression, Mariner Eccles, the governor of the Federal Reserve, the US central bank, was quizzed by Senator Goldsborough:
Governor Eccles: “Under present circumstances there is very little, if anything, that can be done.”Mr. Goldsborough: “You mean you cannot push a string.”Governor Eccles: “That is a good way to put it, one cannot push a string. We are in the depths of a depression and, as I have said several times before to this committee, beyond creating an easy money situation through reduction of discount rates and through the creation of excess reserves, there is very little, if anything that the reserve organisation can do toward bringing about recovery.”Can the ECB solve the problem?
When inflation threatens and the economy is overheating, central banks can raise rates, tighten policy and restore stability. But it does not work the other way around. In a deep downturn, even zero interest rates may not stimulate credit demand and economic recovery. The textbook prescription when interest rates are down to very low levels is to abandon reliance on monetary policy and to rely instead on fiscal stimulus (looser budgets). In the Eurozone, there is no central agency that might undertake this task and the member state governments are fatally split: those that have low debts, and thus the ability to run deficits, are reluctant to do so, while those more willing to borrow, including Ireland, are heavily indebted and would be unwise to push their luck.
The result has been public disagreement between the outgoing president of the ECB, Mario Draghi, and the German authorities. Germany is unwilling to fight the slowdown with fiscal stimulus and enjoys support from Austria, the Netherlands and others. In the absence of fiscal stimulus, Draghi has pushed through a further round of easy monetary policy, but the Germany-led group objects to that too. German savers prefer bank deposits and are concerned about poor, including negative, returns. The Berlin-based Volksbank has just announced that deposits over €100,000 will, in future, pay a negative yield and some Swiss banks have done the same. Keep quiet if you have been getting zero per cent on your deposits – it could turn out to be a bargain.
Read more
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Since the middle of September, the European Central Bank has been paying commercial banks the princely rate of minus 0.5% on any deposits kept there – deposit €100 and they will return €99.50. Only banks can deposit at the ECB, so this generous offer is not available to the likes of you and me. What does a bank do if they suddenly enjoy an inflow of deposits? They cannot find retail borrowers in a hurry, so the only options are to lend on to another bank, buy short-term treasury bills issued by the government, or deposit the extra cash with the ECB, paying them for the privilege. But interbank rates have been driven below zero: the ECB lends to banks at zero, so no cash-deficit bank will pay anything to borrow from another. Short-term rates on government debt have also gone negative, sucked into the ECB’s black hole.
In a deep downturn, even zero interest rates may not stimulate credit demand and economic recovery
Welcome to the Alice in Wonderland of negative interest rates, the response of many central banks around the world to slowing economic activity and near-zero inflation. The idea is to stimulate economies through cheap money. The trouble is that the patient is not taking the medicine and there has been no upsurge of demand for credit, at least not from anyone you might want to have as a borrower. As a result, if you offer to deposit a windfall down at your local bank branch, they will not be pleased to see you. You will cost them money, even if they pay you zero interest, since the immediate impact is higher deposits for the bank at the ECB. This is one of the reasons bank shares have been falling around Europe over the last couple of years – it is difficult for bankers to turn a profit when prevailing interest rates are so low and solid borrowers so scarce. When the ECB buys government and corporate bonds in the market, the policy of quantitative easing means commercial bank balances at the central bank rise, costing them money.
Low interest rates
The problem of persistent deflation has been around the longest in Japan. The country has been stuck in a low interest trap since the early 1990s and the expectation of early deliverance in the Eurozone has faded after just a few years of unorthodox policy. Economists have suspected since the 1930s that funny things happen if the economy gets stuck in what used to be called a ‘low level liquidity trap’. At hearings in Washington in 1935, midway through the Great Depression, Mariner Eccles, the governor of the Federal Reserve, the US central bank, was quizzed by Senator Goldsborough:
Governor Eccles: “Under present circumstances there is very little, if anything, that can be done.”Mr. Goldsborough: “You mean you cannot push a string.”Governor Eccles: “That is a good way to put it, one cannot push a string. We are in the depths of a depression and, as I have said several times before to this committee, beyond creating an easy money situation through reduction of discount rates and through the creation of excess reserves, there is very little, if anything that the reserve organisation can do toward bringing about recovery.”Can the ECB solve the problem?
When inflation threatens and the economy is overheating, central banks can raise rates, tighten policy and restore stability. But it does not work the other way around. In a deep downturn, even zero interest rates may not stimulate credit demand and economic recovery. The textbook prescription when interest rates are down to very low levels is to abandon reliance on monetary policy and to rely instead on fiscal stimulus (looser budgets). In the Eurozone, there is no central agency that might undertake this task and the member state governments are fatally split: those that have low debts, and thus the ability to run deficits, are reluctant to do so, while those more willing to borrow, including Ireland, are heavily indebted and would be unwise to push their luck.
The result has been public disagreement between the outgoing president of the ECB, Mario Draghi, and the German authorities. Germany is unwilling to fight the slowdown with fiscal stimulus and enjoys support from Austria, the Netherlands and others. In the absence of fiscal stimulus, Draghi has pushed through a further round of easy monetary policy, but the Germany-led group objects to that too. German savers prefer bank deposits and are concerned about poor, including negative, returns. The Berlin-based Volksbank has just announced that deposits over €100,000 will, in future, pay a negative yield and some Swiss banks have done the same. Keep quiet if you have been getting zero per cent on your deposits – it could turn out to be a bargain.
Read more
‘Majority of beef farms deliver a low income’- Central Bank
Teagasc income up €8m in 2018
Meat alternatives in meat hall at trade fair
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