Do negative rates boost economy?

WHILE the theory around negative interest rates is relatively simple, economists are divided over whether or not they stimulate demand for goods and services.

Azad Zangana, senior economist and strategist at wealth manager Schroders, says evidence from other European countries that have used them is not conclusive.

He says: ‘If banks are charged for holding cash reserves with the central bank, it eats into their profits and requires them to recoup the cost in some other way. In theory, banks should pass on the cost to savers by giving them a negative interest rate.

‘In reality, in other parts of the world where negative interest rates currently exist, banks have been reluctant to do this, choosing instead to either increase banking fees or charges.’

Duncan MacInnes at investment house Ruffer adds that negative interest rates can have ‘perverse consequences’, encouraging people to hoard cash outside the financial system. He says: ‘It is far from clear that negative rates actually do any good. They punish savers with certainty but looking at the Japanese or European experience it is hard to say with confidence that they encourage economic growth or boost asset prices.

‘It also cripples the banking system’s profitability, which is already under strain during this recession. Negative rates may in fact have a dampening effect on consumer confidence because of what they imply for the state of the economy or the economic outlook.’

The last word goes to Silvana Tenreyro, a member of the Bank of England’s Monetary Policy Committee. She recently said that ‘the positive evidence related to negative interest rate policy comes from Europe where it has worked fairly well’.

The message is clear: don’t rule out negative interest rates. Factor them into your investment thinking.