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Negative Interest Rates

It has long been conventional economic wisdom that interest rates cannot be less than zero, illustrating how poorly so-called experts understand reality.

Here's the theory:

There is a notable asymmetry in the design and implementation of monetary policy: nominal interest rates cannot be negative. During boom times, when the economy is overheating and inflation threatens to rise to undesirable levels, the central bank can raise the official policy rate (a short, risk-free nominal interest rate) to any level it deems necessary. During economic downturns, when excess capacity rises and deflation threatens, the official policy rate can be cut no further than zero. If a further stimulus is desired, unconventional monetary policy, such as quantitative easing (QE) and credit easing (CE) must be resorted to. ...
The zero lower bound on the short-risk-free nominal interest rate on non-monetary financial instruments derives from the existence of a risk-free nominal instrument that carries a zero interest rate. Since the instrument in question, currency, has other attractive properties that are not shared by other nominally denominated non-monetary stores of value like Treasury Bills, including legal tender status, and is, for practical purposes, perfectly liquid, a Treasury Bill with a negative nominal interest rate would be dominated by currency as a store of value. There would be a simple pure arbitrage opportunity for anyone able to borrow at a negative nominal interest rate and invest in currency.
- Willem Buiter, NEGATIVE NOMINAL INTEREST RATES: THREE WAYS TO OVERCOME THE ZERO LOWER BOUND, National Bureau of Economic Research (Cambridge, MA), June 2009


But in some cases, the extent of the deleveraging by borrowers may be great enough to drive the market-clearing real interest rate into negative territory. Since the Fed can't cut rates below zero, savers don't spend enough, there is excess saving, and the economy is stuck with high unemployment.
- R.A., The zero lower bound in our minds, The Economist, Jan. 7th 2012


The standard description of the zero lower bound begins with the observation that the nominal interest rate offered by currency is always zero: If I hold on to a dollar bill, I’ll still have one dollar tomorrow, next week, or next year. If I invest money at an interest rate of -2 percent, in contrast, one dollar of saving today would become only ninety-eight cents a year from now. Because everyone has the option to hold currency, the argument goes, no one would be willing to hold some other asset or investment that offers a negative interest rate.
- Todd Keister, Why Is There a “Zero Lower Bound” on Interest Rates?, Liberty Street Economics, Nov. 16, 2011




Here's reality:

... there are good reasons that the yields on 10-year German bonds dipped below zero percent on Tuesday for the first time, meaning investors are essentially paying Berlin to keep their money.
Fear is probably paramount. ...
While many central banks are pushing for low or even negative rates, the new world order could create unexpected consequences. Much of the global financial system is based on above-zero interest rates. Banks, pension funds and insurance companies depend on interest-bearing investments for a big part of their profits.
- Jack Ewing, German Bond Yield Goes Negative on ‘Brexit’ Fears and Central Bank Policies, NYT, June 14, 2016


Germany on Wednesday became the first country in the eurozone to sell 10-year debt with a negative yield at an auction, effectively ensuring that investors lose money over the life of the bond. ...
Across the globe, $11.7 trillion of government debt — generally considered to be among the safest of assets — is trading at negative yields, according to Fitch Ratings.

The impacts of negative yields are still not fully understood by analysts or policy makers. The global financial system is largely predicated on above-zero rates, with banks, investment houses and pension funds all depending to some extent on what has traditionally been a given.
- David Jolly, Germany Sells Bonds With Negative Yield at Auction, NYT, July 13, 2016


...Willem Buiter and his team at Citi... wrote in a note to clients on Monday...
"After many years in which it was virtually unthinkable for interest rates to go below zero, the evidence suggests that there is no discontinuity at the zero bound."
Wind the clock back just 10 years or so and the economic orthodoxy more or less said there was a lower bound on monetary-policy rates that existed at 0%. Going below that rate, in this line of thinking, would basically create a malfunction in the modern economic system.

This has not happened. We've seen the European Central Bank, the Swiss National Bank, the Danish Nationalbank, and the Swedish Riksbank all take interest rates into negative territory. This week, the ECB looks poised to cut its deposit rate — currently pegged at -.20% — further into negative territory, a development that, again, was more or less unthinkable not long ago.
- Myles Udland, The most creative thing central banks have done since the financial crisis has had 'unspectacular' results, Business Insider, Nov. 30, 2015


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