World Economy

Sub-Zero Interest Rates

Sub-Zero  Interest RatesSub-Zero  Interest Rates

Japanese families seem to have a sudden affinity for home safes. According to the Tokyo-based manufacturer Eiko, shipments have doubled since last fall. And in Germany, insurer Munich Re has stashed some €10 million ($11.4 million) worth of its own cash into vaults.

Why the squirreling? One possible reason is the creeping imposition of negative interest rates across the world, which could make it more rewarding to bypass banks—and a safe or vault is, well, more secure than a mattress, Bloomberg reported.

Welcome to the upside-down world of modern monetary policy. In this new reality, borrowers get paid and savers penalized. Almost 500 million people in a quarter of the global economy now live in countries where interest rates measure less than zero. That would’ve been an almost unthinkable phenomenon before the 2008 financial crisis, and one major economy didn’t seriously consider until two years ago, when the European Central Bank first partook in the experiment. Now the ECB and the Bank of Japan are diving deeper into the sub-zero world as they seek more ways to spark inflation.

ECB President Mario Draghi currently charges 0.4% on the euros deposited by banks in his coffers overnight. BOJ Governor Haruhiko Kuroda, whose country knows more than most about the perils of soft inflation, knocked his benchmark down to an unprecedented -0.1% in January. Their counterparts in Sweden, Switzerland, and Denmark have already been running negative campaigns for a while now. The US Federal Reserve has, so far, remained on the sidelines.

Risks & Effects

The overall aim, of course, is to spur banks to look elsewhere when lending their cash, preferably to spenders such as companies and consumers, who should also benefit from low borrowing costs in markets. There’s also the hope—especially in Scandinavia and Switzerland—that currencies will fall as investors seek higher returns elsewhere, lifting exports and import costs.

The policy isn’t without risks. Bank profits could be squeezed, money markets may freeze, and consumers could end up with bulging mattresses to avoid paying to keep money in a bank account. The whole effort could wind up leaving inflation even weaker—hence the tiptoe approach to cutting rates.

Financial markets are already feeling the effect. Bonds worth about $8 billion now offer yields below zero. Japan paid investors to buy 10-year debt this year for the first time, while Siemens and Royal Dutch Shell are among companies that have seen their yields sink into negative territory.

If the central bankers’ audacious plan works, inflation would accelerate from the 1.1% rate the International Monetary Fund forecasts for developed markets this year, which is barely half the 2% most authorities view as ensuring price stability.

The problem: Not everyone is enamored of the new approach. Investors who once cheered fresh doses of easy money by sending stocks to record highs responded to this year’s negative campaigns by dumping equities. Spooked by a slowdown in China at the same time, central banks dug deeper, traders wiped about $2 trillion from the value of global stocks through April 1, according to data compiled by Bloomberg.

Among the reasons was the fear that even lower rates would erode already strained profits at banks by compressing the gap between the cost of funding and the revenue from lending at a time when lenders are already under stress.

In 2015, Deutsche Bank experienced its first annual loss since 2008, while analysts at Goldman Sachs reckon that banks heavily reliant on deposits will see an earnings-per-share impact of as much as 10% for each cut of 10 basis points. “Margins are going to be squeezed, so banks have to find ways to go around these negative rates,” says Lorenzo Bini Smaghi, Societe Generale’s chairman and a former ECB policymaker.

A more existential worry is that by embracing a policy they once declined to countenance, central bankers are signaling they’re finally running low on ammunition. Such an admission would suggest the tepid economic growth of recent years is beyond their control—and perhaps a permanent state of affairs.