1
$\begingroup$

What limits central banks from setting highly negative interest rates if needed? Is it only that people can take out a lot of cash and put it in a vault, or are there other reasons?

If we had removed cash and only had electronic money, could central banks set interest rates highly negative, for instance, -10%? Could they set it to -20%? Or would people just have started to use other means of value, like foreign currencies, crypto currencies or gold?

$\endgroup$
  • 1
    $\begingroup$ Does this answer your question? Cash and negative interest rates $\endgroup$ – Art Jan 20 at 1:31
  • $\begingroup$ Not the same question, but it sort of answers my question. Thanks. The questions link to an IMF blog article which says that the lower bond on interest rates can be solved by removing cash or splitting electronic money and normal cash into two currencies and let the hard currency float. So I guess that implies that IMF think that the main constraint for negative rates are hard cash. $\endgroup$ – JonT Jan 20 at 21:38
  • $\begingroup$ However, it does not tell if there are other lower bonds if the interest rates is pressed even more negative for instance if and when people would start to use money equivalents like foreign currencies, crypto currencies or gold. $\endgroup$ – JonT Jan 20 at 22:36
0
$\begingroup$

Pretty much yes. It is because cash carries implicit zero interest in itself. In practice interest rates can be little bit negative because having all your money in form of cash could be dangerous (you might get robbed, also it’s not easy to store let’s say 20000e at home etc.).

However, if a country would went cashless the central bank could in principle set interest rate to any value they would like even -10%. In that case there is really no any other way how people could avoid the negative interest rate if they want to hold the money.

| improve this answer | |
$\endgroup$
  • $\begingroup$ @BBKing This answer contradicts yours. Where does it go wrong? $\endgroup$ – Giskard Jan 19 at 19:46
  • $\begingroup$ In a cashless economy there would be possible to invest into cryptocurrencies. I would imagine that hoarding, say, Bitcoins, would become popular if banks set up high negative interest rates. $\endgroup$ – user161005 Jan 20 at 2:34
  • 1
    $\begingroup$ @user161005 not sure if people would hoard crypto -research shows that crypto behaves like a speculative asset not as a currency- but people would probably started “hoarding” more regular assets which is the whole point of negative intrastate rates, to get rid of the excess uninvested savings. But the negative interest rates can be very low if society is cashless - it’s also not possible that the society completely switches to some another form of money if the original money is legal tender so all taxes have to be paid with it which is what creates demand for fiat money in the first place. $\endgroup$ – 1muflon1 Jan 20 at 8:38
  • 1
    $\begingroup$ @1muflon1 1. But does it mean that a cryptocurrency is UNABLE to behave as a currency? Today cryptocurrencies kind of stuck due to network effect , there is not much use in using them, but to speculate. Situation that you described would simulate adoption of cryptocurrencies on wider scale, making speculation lesser part of their circulation. 2. Okay, so there would be two currencies, one used for taxes and one for everything else. I don't see how such incomplete adoption would make much difference. $\endgroup$ – user161005 Jan 20 at 11:54
  • 1
    $\begingroup$ Thanks for a fruitful discussion. I'm I right that foreign currencies can not be used as a substitute since difference in interest rates will lead to divergent exchange rates (in addition to normal exchange rate risk)? $\endgroup$ – JonT Jan 20 at 23:06
1
$\begingroup$

Since this is a question about central banks... they would not want to do this because it would push many ordinary people to put their savings in highly speculative assets, potentially destabilizing the economy. It is/was already a bit of a concern even with near zero, never mind mildly negative interest rates. There's a fine line between "kickstarting the economy" and setting up a large portion of the population to speculate in the junk bond market and/or housing.

Also, wealth inequality will probably go up faster as well (in the long) as more smaller investors get wiped out, although that's seldom a concern for central banks, given their usual mission.

As for hoarding cash in such an environment... that's not without risk either, because the authorities could decide to counter that with some kind of demonetization (see India, and numerous other historical examples.)

Also, in a democracy, weird stuff might happen, like the Swiss left- and right-wing populist parties threatening to put to a referendum a redistribution of the central bank profits into the pension funds (who blame the central bank for their losses.) That would basically negate the effect of the negative interest rates, as far as the pensions funds are concerned. In fact, it would act like a redistribution from others to said pension funds, ultimately.

| improve this answer | |
$\endgroup$
0
$\begingroup$

What stops it are the basic laws of supply and demand.

A highly negative interest rate means that someone will pay you to take their money. There are very few people willing to offer credit on those terms.

This is the equivalent of me offering someone 100 dollars today and asking for 90 dollars in return tomorrow, with the added risk of not receiving all of the money back. There is nothing in it for me.

Central banks would in that case would be giving free money to private banks, which certainly would not pass on negative interest rates to borrowers, for reasons outlined above.

| improve this answer | |
$\endgroup$
  • $\begingroup$ @1muflon1 This answer contradicts yours. Where does it go wrong? $\endgroup$ – Giskard Jan 19 at 19:45
  • $\begingroup$ @Giskard I am not even 100% sure it contradicts mine. I would agree that under negative rates supply of credit will drop - that’s even the main point usually neg interest rates occur when real Int is neg. which indicates excess of saving and credit. If BBking answer is made under assumption there is cash I would not call it wrong but in cashless society there would still be credit. This is because it’s better to borrow 100 today for 90 tomorrow then having 100 today on deposit account and get 80 tomorrow due to negative interest on deposit - hence there could still be incentive to borrow $\endgroup$ – 1muflon1 Jan 19 at 19:54
  • $\begingroup$ By the way I just realized I should have said lend in my comment instead of borrow... Sorry for the typo $\endgroup$ – 1muflon1 Jan 19 at 23:20
  • $\begingroup$ You are right that this is the reason why interest rates normally have been positive (up until now). However, for instance in fast declining populations you might envision a lot of people want to offer credit despite highly negative rates if there are no better alternatives to save. $\endgroup$ – JonT Jan 19 at 23:27
  • 1
    $\begingroup$ @BBKing but at negative interest rates in cashless society also deposit interest rates would be negative! In fact even in Netherlands at some banks the interest rate on some deposit account (above 1000000e) the interest rate is already negative and we are not even completely cashless (which why banks applied it to only accounts with over 1000000e because where will you take that heap of cash?). If there is negative interest on your deposit account you still want to invest in bonds etc which at least offer less negative interest than deposit - it’s like a mirror image of normal situations $\endgroup$ – 1muflon1 Jan 20 at 8:44

Your Answer

By clicking “Post Your Answer”, you agree to our terms of service, privacy policy and cookie policy

Not the answer you're looking for? Browse other questions tagged or ask your own question.