Why should I get a bond with negative interest instead of having a bank deposit account either zero interest or positive interest

Question

I don't get why central banks apply negative interest rates. They say that buy our bond and at the maturity, it will worth less than today. What is the policy outcome of such decision? Why an investor still accepts this or is it just a mechanism to indirectly discourage bond sellings?

Answer 1

It makes little sense to me either, but here are some possible reasons for buying a bond with negative interest rates rather than depositing the same amount in a bank:

1. The deposit-taking bank may go bankrupt during the lifetime of the bond and your deposit would be too large to be guaranteed, with the cost of default insurance being higher than the the negative interest
2. The bank may start charging you for holding your deposit at some time during the lifetime of the bond, at a higher cost to you than the negative interest
3. You may be legally obliged to hold bonds, for example as a pension or insurance company
4. You run an Exchange Traded Fund or similar investment tracking a bond index and some of the bonds in the index have negative interest rates
5. You are a foreign investor who only cares about the combination of the current exchange rate, future exchange rate and interest rate, not any individual component of this triangle, or you believe currency appreciation will more than compensate for negative interest
6. You are a derivatives trader, and the market prices of derivatives lead to an arbitrage opportunity where you can only guarantee a profit by buying the bond
7. You believe that at some time in the future you may be able to sell the bond for more than you paid for it (i.e. an even more negative yield), perhaps to a central bank's quantitative easing programme

Answer 2

@Henry gives a good answer with lots of interesting reasons. However, there are lots macro-model setting where the demand for risk free assets is positive, even when the interest on savings is negative. Essentially, because risk is unpleasant and we don't have any good alternative technology to the market for risk-less assets to move our savings through time, risk adverse entities will generally have a positive quantity of the risk-free asset regardless of the interest rate.

And, to some extent, this meshes with our intuition about how savings works. The poor medieval farmer puts away ("saves") food in the summer for winter knowing that much of it will spoil and there certainly won't be any more than he puts in ("negative interest") but because he doesn't have a bank or because agricultural prices are higher in the winter, he can't simply sell all his produce today, save the money, and buy the food later.

In fact, if you have log-utility preferences the income and substitution effects cancel (see for example Jones chapter 20) and no change in interest rates up or down changes the consumption and savings decision.

Answer 3

Basically, every cut in interest rates discourages saving/holding bonds, also when the interest rate goes into negative territory

It was long believed that when interest rates are zero (or negative) nobody has an incentive to hold bonds/assets, as there is no opportunity cost in holding cash (and cash is more liquid).

However, it turned out that investors are still willing to hold bonds. The main reason is that negative interest rates are still cheaper than holding and securing cash (i.e. storage costs) and (to a lesser extent) that writing checks and withdrawing money from the ATM is still preferred to managing your cash holdings on your own.

Look at this blog entry for an interesting discussion on the topic.