In the recent 20 months, we read about it more often than ever: central banks worldwide whose policies seem to support negative interest rates. While the theory tells us that a negative interest rate is in theory not possible the reality is showing us otherwise. The German online broker flatex introduced a negative interest rate of -0.4% not only for its wealthy customers but for all of its customers.
Minus or Cash
In theory, it is not possible to have an interest rate below zero. As soon as banks introduce a negative interest rate customers will simply withdraw their cash and store it under their bed. The recent months, however, showed us that people have a small approval for negative interest rates. Handling larger amounts of cash is more expensive than handling it digitally while paying the negative interest rate.
What is the intention of central banks?
Central banks introduced extremely low or even negative interest rates to boost consumption, business expansion, and job creation. In theory, a negative interest rate which bank customers are charged for will have two effects:
1. Consumers will preferably invest in stocks or bonds than paying a negative interest rate.
2. Banks will preferably lend money to consumers and businesses to avoid paying a negative interest rate to park their money in a central bank.
Businesses, therefore, will lend cheap money – at banks or at the stock market – to invest it in the expansion of their business, which will, in the end, create jobs.
Sounds too good to be true? In my opinion, yes.
Dangers and Risks
Negative interest rates are not an easy tool for banks and central banks. With introducing a negative interest they are risking a banking crisis. There are several reasons for that.
First of all, negative interest rates punish people who have no experience in the stock market or people who seniors and baby boomer’s who have been shocked by the two recent stock market crashes. They will not take the risk investing in stocks to yield a positive return. With a lack of risk, they will still prefer negative interest rates or put their cash under their bed. Germany currently has an inflation rate of 2+% combined with a negative interest rate it creates a toxic mixture for our seniors and financial beginners. The result will be that they, in the end, withdraw their money and as their money loses in value they will not be able to hit their retirement goals.
If there are still inexperienced savers who don’t want to store their cash at home we will see a rise in very risky speculative investing. People without proper market knowledge will invest in companies whose financial statements they are not able to read. In the end, we will experience a highly volatile market.
Another danger is already ever-present: banks are – instead of paying the negative interest rates to the central banks by themselves – passing the costs on to their customers. The results are higher fees for customers. We experience this in Germany where banks are re-introducing monthly account fees, ATM fees and other fees. This is bad for their poorest customers.
Crypto Currencies and Cash
A real danger ire cryptocurrencies like Bitcoin and Ether. While withdrawing great amounts of money might be very difficult it became extremely easy to transfer Euros or Dollars into cryptocurrencies such as Bitcoin and Ether. The next bank run will not take place at an ATM but on cryptocurrency exchange platforms on the internet. In the end, both, a bank run at the ATM, huge demands for gold or cryptocurrencies will lead to a global financial crisis. As soon as banks introduce interest rates for everyone customers will seek alternatives. They will decide for risky speculative stock investments, risky cryptocurrency investments, unprofitable gold investments, or the storage of cash at home. The beginning of a banking crisis.