Negative interest rates could cost you
At zero or below, banks likely would boost fees
It seems like only yesterday that the Federal Reserve was steadily raising interest rates as the U.S. economy picked up steam after years of near-zero rates following the Great Recession of 2007-09.
But the Fed cut its key rate in July for the first time in a decade, another such move is likely next week and there’s growing talk of pushing rates down to, or even below, zero.
JPMorgan Chase CEO Jamie Dimon this week said bank executives have discussed imposing certain fees on consumers if rates fall to zero. And President Donald Trump on Wednesday tweeted that the Fed “should get our interest rates down to ZERO, or less,” allowing the federal government to refinance its massive debt at a lower cost.
Here’s why the Fed may eventually lower rates to zero or below – and what that would mean for consumers.
When might the Fed reduce its benchmark rate to around zero?
The central bank almost certainly would not take such a step in the short term. Fed Chairman Jerome Powell has said the U.S. economy is performing well, and the Fed’s key rate is well above zero at a range of 2% to 2.25%.
But Powell and other
Fed officials are worried about risks that could derail the record 10year-old economic expansion, such as Trump’s trade war with China and a slowdown in global growth.
As a result, the Fed is likely to continue to gradually trim the rate to spur more borrowing and economic activity, with markets expecting five more quarter-point cuts by early 2021, according to Bank of America Merrill Lynch. That would leave just three more decreases to get to zero, suggesting it could happen in 2021.
Why would the Fed lower the rate to zero?
It likely would take a recession, says economist Paul Ashworth of Capital Economics. But it wouldn’t necessarily need to be a deep recession, such as the 2007-09 downturn, he says. That’s because rates already are historically low as a result of a slowspeed U.S. and global economic recovery rooted in an aging population and weak productivity growth. Many economists are forecasting a recession by the end of next year.
What are the benefits of a zero, or near-zero, Fed rate?
A Fed rate at zero doesn’t mean consumers wouldn’t have any borrowing costs – banks still need to make a profit – but it likely would mean very low monthly interest costs for home and car buyers, as well as businesses and other borrowers. The problem: Far fewer households and businesses will be eager to take out loans if the economy is in recession, says Greg McBride, chief financial analyst for Bankrate.com.
What’s the downside?
Seniors and other Americans who depend heavily on income from bank savings would be frustrated by a return to microscopic savings rates below 1%.
Low rates also squeeze the profit margins of banks, who make money by paying interest to depositors and lending it out at higher rates to borrowers. The prospect of slimmer margins is what prompted JPMorgan’s Dimon to say bank officials are considering introducing new fees to bolster earnings if rates dropped to zero.
That could mean raising overdraft charges and ATM fees and adding or increasing monthly maintenance fees for checking accounts, McBride says. Some banks might even hit customers with charges to transfer money or complete other transactions in person rather than online, he says.
What would it mean for the Fed to lower rates below zero?
A negative interest rate means banks would pay a small amount of money each month to park some of their money at the Fed – a reversal of how a bank typically works. Banks, in turn, could pass those interest costs to customers by charging for deposits. Currently, banks earn a small amount in interest by leaving cash at the Fed.
Does that mean you would have to pay interest on savings and money market accounts?
Banks likely would charge big companies and other large depositors who need a place to store their many millions of dollars but could protect consumers from negative rates on deposits.
Do negative rates mean you could get paid to take out a mortgage or other loan?
That’s theoretically possible, but it’s more likely a bank would charge very low interest rates on loans. If a loan did carry negative interest, the bank would increase other fees to ensure it makes a profit.
Why would the Fed push rates into negative territory?
If the Fed nudges rates to zero, it has few options left. The goal of below-zero rates would be to spur banks to lend more, jolting a sluggish economy, and encourage consumers and businesses to spend rather than save their money. Presumably, a bank would rather lend, even at a low interest rate, than pay to keep its money at a central bank.
So if interest rates go to zero, are negative rates next?
The Fed likely would first try other strategies, such as resuming its financial crisis-era purchases of Treasury and mortgage bonds to drive down longterm interest rates, Ashworth says. But Bank of America notes the 10-year Treasury rate already is so low that it recently dipped below the 2-year note – a development that signals a dim outlook and hurts consumer and business confidence. So the Fed may be hesitant to worsen that situation.
Would it be viable for the Fed to lower rates below zero?
Some experts say the law would need to be changed to allow it or the move could face legal challenges, Ashworth says. There also are practical concerns. Money market mutual funds likely would charge consumers for deposits. That, he says, could lead to a run on the funds, which are used to finance shortterm commercial loans, potentially slowing the gears of the financial system. Still, Bank of America says, “We believe negative rates in the U.S. are a possibility.”
Do other countries have negative interest rates?
Yes. Central banks in the eurozone, Sweden, Denmark, Switzerland and Japan have had negative rates for several years to jump-start sluggish economies and meager inflation.
Have negative rates been successful in those countries?
The rates have stimulated some additional lending, largely on the margins. They have resulted in other benefits that indirectly boost economic growth, such as lowering the cost of government debt and devaluing a country’s currency, which makes its exports less expensive overseas, Oxford Economics says.
At the same time, negative rates further squeeze bank profits, making them less likely to lend in some cases, Oxford says. They also drive investments to other assets such as gold and commercial real estate. That could lead to bubbles that eventually pop.