Tuesday, September 9, 2014

Interest Rates Go Nominally Negative In Europe

While I have only seen it reported in small print deep in an article in the Financial Times, evidence of the newly expansionary monetary policy by the European Central Bank is now visible in the reappearance of the peculiar phenomenon of negative nominal interest rates, most prominently for two-year government notes in Ireland, France, Belgium, the Netherlands, Finland, and Germany.  I am mystified why when we see this phenomenon it seems to be most prominent at the two-year time horizon, which means that there is a V-shaped yield curve out there, also something plenty peculiar.  When we saw negative nominal interest rates in the US economy a few years ago briefly, they also seemed to be concentrated at the two-year time horizon.

In any case, given the stagnant state of the eurozone economy, I guess this must be viewed as being a Good Thing, at least for now.

Barkley Rosser


Myrtle Blackwood said...

For the reader's interest:
"...The banking system as a whole has excess liquidity...When the excess liquidity increases, rates fall since less must be borrowed in the interbank market ..it is ... not enough to lower just the main refinancing rate. In fact, the deposit rate may be the most important policy rate of a central bank in an environment of excess liquidity.

The decision to lower rates... is also fully in line with the ECB’s forward guidance ...[which] implies that interest rates remain at present or lower levels for an extended period of time conditional on an assessment of the economic outlook....a central bank lowers rates when the economy needs stimulus, which is precisely when it is difficult for banks to find good loan making opportunities. It remains to be seen whether and to what extent the recent monetary policy accommodation translates into cheaper bank lending. ...

Life below zero: Learning about negative interest rates
Speech by Benoît Cœuré, Member of the Executive Board of the ECB on 9th September 2014

Myrtle Blackwood said...

Chris Martenson in June this year:
"..That is the key analysis here, which is if you are printing like crazy into the maw of a beast that feeds on energy and energy is going into a limited supply, there is just an amazing discontinuity between the reality on the one hand and the printing on the other....The bottom line is that what I see in this NIRP [Negative Interest
Rate Policy] policy of the ECB, this increasing desperation to just get things working again as fast as possible is an absolutely profound inability to correctly diagnose where we are in this story. ..."

Alasdair Macleod: All You Need To Know About Negative Interest Rates
The implications of the ECB's radical decision
by Adam Taggart
Sunday, June 8, 2014, 10:14 PM

rosserjb@jmu.edu said...

Thanks for these, Myrtle. There have been quite a few people out there urging that negative interest rates be used, particularly in the eurozone. One of those has been Miles Kimball, alhtough his proposal goes along with some other things that may not be so simple. In amny case, portions of the yield curve in the eurozone are now nominally negative.

What remains a mystery to me is why when this happens it seems so often to center on the two-year time horizon. I have yet to see a single person anywhere comment on this or offer an explanation.

Myrtle Blackwood said...

I have no idea about the cause of the two-year time horizon. Could be a financial 'fractal'? ;-)

Good luck to the banks finding sufficient "good loan-making opportunities" at a time of global triple crisis (financial, environmental and energy).

An alternative stimulus was suggested by EF Schumaker in the 1970s. In relation to the high unemployment problem I quote: "as if anything could be more uneconomic than having people do absolutely nothing." Why not employ as many people as possible on projects to address the very significant problems we have?

The ultimate stimulus: work performed and needed projects completed.

john c. halasz said...

I don't recall U.S. T-bonds, as opposed to T-bills going negative. Maybe you are referring to TIPS?

Negative yields occur because longer-term bonds are being swapped for shorter term bonds and since they are priced in liquid currency, which is in short supply and high demand, and is always just a small slice of the financial system's outstandings, a high price, as the inverse of yield, occurs.

My general understanding is that financial assets are priced relative to each other based on liquidity premia rather than on any certain knowledge of future returns, which can't be known, merely guessed at. In the 2012 case where German and Danish 2-years went sharply negative, it was a response to the risk of a Euro breakup, and longer terms (and other issuers) were being swapped for the medium term. If the break-up were to occur, then speculative profits would have compensated for the negative yield, whereas longer terms threatened a much more difficult unwinding of positions. In the meantime, this bonds are used as collateral, a kind of meta-currency, in all sorts of financial transactions and contracts. So herding behavior occurs, insofar as everybody panics in the face of rising uncertainty.

SO your question is why at 2-years. I guess that that is a kind of pivot point in foreseeable horizons, between what the authorities might conceivably do now to some effect and what neither the authorities , nor the market players can anticipate. Since rising relative longer-term yields are the counterpart of falling and miniscule short-term yields. It's a matter have having to stay in the game, without quite knowing what that game is, and needing strong enough liquidity/collateral to tread water, before you find out.

Myrtle Blackwood said...

Had a quick look at Miles Kimball's proposal for electronic money and negative nominal interest rates. First thoughts: Big Brother reigns supreme and 'Negative nominal interest rates' sounds like just another way of creating inflation (who wins in this game?)

Negative returns on money means people will do what they can to avoid using that particular currency and these days it's relatively easy to create other versions of electronic currency.