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Negative Interest Rates

Imagine that you borrow 100 euros from your bank at a one percent interest rate, due to the policy of higher interest rates, you would normally return more than the amount you borrowed. But what if you did not have to pay the interest amount and instead the banks paid you to borrow money? Something similar to this happened in Sweden in 2009, when Sveriges Riksbank or the Central bank of Sweden lowered its deposit rate to -0.25 percent in order to help the country’s economy recover from the global financial crisis of 2008. After the introduction of negative interest rates in 2009, Sweden’s GDP had a 6 percent increase in 2010. Following the success of the new system, the European Central Bank and the Bank of Japan in 2014 and 2016,  respectively, also introduced the concept. Now the question arises: “what exactly are negative interest rates and how do they affect the economy?”

Silvio Gesell proposed the theory of negative interests in the late nineteenth century, and it refers to the interest or money paid to borrowers rather than lenders. The system was implemented in order to encourage borrowing, lending, and spending rather than saving and hoarding money. By setting interest rates to negative, central banks encouraged smaller banks to lend money, and through the cycle of lending, borrowing, and spending, they were able to jumpstart an economy that was collapsing as a result of people hoarding money in the anticipation of an economic downturn. According to Fredrik N G Andersson, the new monetary policy in Sweden had a positive impact on not only the GDP but also on the exchange rate, the housing market, and the level of household debt and helped stabilize the markets. Therefore, we must now understand how such a system has impacted the countries that have implemented it.

As of 2020, only three countries have implemented negative interest rates, namely, Switzerland, Denmark, and Japan. However, at the beginning of this article, it was mentioned that Sweden was the first country to introduce the system, so what made them reverse their policy? Unfortunately, the desired outcomes for the economy were not achieved because, despite initial success, the economic growth slowed down after 2015. The governor of Riksbank, Stefan Ingves, explained the situation and stated that “if the choice were to be at zero or slightly negative, to be at zero is a good place to be”. According to a 2019 article by Charles Tan, the reasons why negative interest rates can harm an economy are, “aging populations” that are skeptical of debts and rely on savings, as well as the “rapidly rising debt levels around the world” and therefore, introducing this system will increase the debts at a rapid pace. According to a report by the Association of German Banks, negative interest rates have cost eurozone lenders a total of 25 billion euros since their implementation and claims that the “burden is depressing bank profitability and will eventually limit their lending capacity”. Furthermore, many private sectors and banks are struggling due to the effects of the lockdown and the pandemic, therefore borrowing money can be a disadvantage.

Despite the challenges, many countries have a low-interest rate policy and may soon implement the Zero Interest Rate Policy (ZIRP) to stimulate their economies. In 2019, Donald Trump expressed his wish for lowered interest rates when he tweeted that the “Federal Reserve” of the United States should get the “interest rates down to ZERO, or less”. The Bank of Canada hinted in 2020 that the ZIRP could be implemented in the near future. As more countries adopt the system, commercial banks will be forced to adapt and implement it for their customers; this means that the customers will pay an amount to keep their money in the banks. Therefore, it will not be the most suitable time to save and store money. ​​In such a case, investing the money is the best course of action because it will ensure a stable future through returns.

Sources:

  1. Anderson, F. N. G., & Jonung, L. (2020). Lessons from the Swedish Experience with Negative Central Bank Rates. Cato Journal, 1–19. https://www.researchgate.net/publication/344044525_Lessons_from_the_Swedish_Experience_with_Negative_Central_Bank_Rates
  2. Bundesverband deutscher Banken e.V. (n.d.). Strategy review of the European Central Bank. Retrieved January 13, 2020, from https://en.bankenverband.de/newsroom/comments/strategy-review-european-central-bank/
  3. GDP improves in Sweden. (n.d.). Countryeconomy.Com. https://countryeconomy.com/gdp/sweden?year=2010https://countryeconomy.com/gdp/sweden?year=2010
  4. Milne, R. (2020, February 20). Why Sweden ditched its negative rate experiment. Financial Times. https://www.ft.com/content/478fe908-5168-11ea-8841-482eed0038b1
  5. Montgomery, M. (2020, October 9). Bank of Canada: Negative interest rate, “in the toolkit.” RCI | English. https://www.rcinet.ca/en/2020/10/09/bank-of-canada-negative-interest-rate-in-the-toolkit/
  6. Sherman, E. (2019, September 11). Trump is pushing for interest rates of “zero or less” — but do they work? NBC News. https://www.nbcnews.com/business/economy/trump-pushing-interest-rates-zero-or-less-do-they-work-n1052371
  7. Tan, C. (2019, September). The Downside of Negative Interest Rates. American Century Investments. https://corporate.americancentury.com/content/corporate/en/insights/articles/news-insights/downside-negative-interest-rates.html
  8. The World Bank. (n.d.). GDP (current US$) – Sweden | Data. World Bank. https://data.worldbank.org/indicator/NY.GDP.MKTP.CD?end=2020&locations=SE&start=2000

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