Le nouveau monde étrange d'intérêt négatif - ENG

The unthinkable has happened – we are entering a period of negative interest rates. This startling situation began last year, when the ECB applied negative interest rates to the deposits that were placed with it. A negative interest rate is tantamount to making the private banks pay in order to place their liquidities in the ECB. It is as if the ECB were taking such good care of the deposits that this guarantee has to be paid for, over and above the remuneration on the money. So indirectly, the ECB is pressing the banks to lend their excess liquidities to States or private debtors. This posture is a signal to the markets that the cohesion of the euro and the intervention of the Central Bank are not to be compromised by any symbolic threshold.

This reality stems from financial repression, a deflationary situation and a fight against debt reduction. Financial repression is a context marked by keeping rates artificially low in order to lighten the burden of public debt. Recession also puts interest rates under pressure: as investment needs are low, the quantity of money lent falls, thus reducing its price – in other words, the interest rate. The economy stagnates and its money circuits seize up. It is caught in a “liquidity trap”, which characterises the periods when consumption and investment are unimpressed with the money supply and tiny interest rates.

For several weeks now, negative rates have been spreading to many sovereign debts. Indeed, the ECB has launched a massive programme of quantitative easing, which consists of discounting, i.e. issuing money in exchange for sovereign bonds that it acquires from the financial institutions. This approach by the ECB is causing the price of these sovereign bonds to rise, so it has to pay “over the odds” for them, and this automatically leads to a fall in interest rates. Today, almost 20% of sovereign debt, or nearly 2,000 billion euro out of a total of approximately 7,500 billion, is subject to negative interest rates.

Negative interest rates are not some kind of financial witchcraft. Of course, it is worrying that the ECB is penalising deposits by the private banks while it is also issuing banknotes which, while they too are part of its liabilities, do maintain their face value. So this is the other side of money – in fact, its hidden face.

However, negative interest rates do present us with a strange situation. Interest rates are the price of time, as they entail applying, to a particular timespan (a day, a month, a year...), a percentage of conventional value. Interest therefore represents the price of the dispossession of time. The interest rate automatically makes the future “nominally” more expensive: in the case of an interest rate of 1%, it is the equivalent of possessing €1,000 today or €1,100 in a year’s time. When the interest rate falls to zero, the future comes closer, as the passage of time is no longer rewarded by interest. Time gradually becomes a weak variable until the point is reached where the monetary expression of the future heaves to alongside that of the present.

But when the interest rate turns negative, it is as if time itself turns negative. It is as if the capitalisation of sums in the future propels them back into the past. Take the round-number example of a 1% positive interest rate applied to an investment of €1,000. One year on, this investment will be worth €1,010. Two years on, the same investment, capitalised again at 1%, will come to €1,020. Now suppose that, at the end of those two years, a negative rate of -1% is applied. The sum of €1,020, placed at the negative rate of -1%, will become €1,010 at the end of the third year and €1,000 at the end of the fourth year. So we can see that a negative interest rate takes sums of money back to the past by returning them to their original value.

If they were carried over into the whole of the economy, negative interest rates would serve to stimulate borrowing and consumption, while discouraging savings, as money deposits are penalised.  

This situation has some drawbacks. State indebtedness is fostered by low or negative rates. The rates no longer act to discipline States, which can consolidate their debt on the cheap. Such rates also incite investors to take additional risks while helping to form asset bubbles, i.e. inflating shares and real estate. In Denmark, negative mortgage rates are causing a surge in property prices.

Financial institutions whose core business is maturity transformation (banks and life insurance companies) are, for their part, faced with an inversion of the value chain. The banks, for instance, have investments that are traditionally longer-term than their liabilities, i.e. the deposits placed with them. A drop in interest rates does, at first, have a favourable impact on their balance sheets, due to unrealised gains, but this advantage fades over time. Interest rates that are too low then lead to lower profitability, rather like a pump blowing back. So the financial institutions end up between the rock of too low returns on their assets and the hard place of their own customers’ irreducible demands for remuneration. Moreover, instead of benefiting from a maturity transformation margin between deposits and investments, the institutions have to absorb operating costs that exceed this margin. The steeper the fall in interest rates, the stronger this pressure will be.

To sum up, negative interest rates are taking us into a weird new world. It is a sort of “light” version of an inflationary situation. As the banking channels are currently too sluggish to transform money creation into inflation, the temporary substitute is an authoritarian cut in currency rates. The problem is that bank deposits lose value in such deflationary contexts, whereas cash retains its face value… except that cash handling is becoming more and more limited. Indeed, if rates stayed structurally negative over a long period, it is conceivable that public controls on cash movements might be brought in. This would be a sort of confiscation of savings, which would have to be left in accounts. A science fiction scenario? I hope so. But history teaches us that the State is always the ultimate monetary authority.

Finally, the real issue is not that we have strayed into the land of negative interest rates, but how we are going to get back out of it. If rates go up again too brusquely, there is the danger of a severe economic contraction. So I sense that negative interest rates are only a temporary means. They would embark the economy on a loss of monetary value until, at a certain moment, inflation took over as the substitute for the negativity of interest rates.