Something economists thought was impossible is happening in Europe

[ksen]

http://www.vox.com/2015/2/5/7981461/negative-interest-rates-europe

Something really weird is happening in Europe. Interest rates on a range of debt — mostly government bonds from countries like Denmark, Switzerland, and Germany but also corporate bonds from Nestlé and, briefly, Shell — have gone negative. And not just negative in fancy inflation-adjusted terms like US government debt. It's just negative. As in you give the owner of a Nestlé bond 100 euros, and four years later Nestlé gives you back less than that.

Negative interest bonds don't sound like a good thing to be happening.

If demand is that high for certain bonds then shouldn't more of them get offered to meet the demand and bring interest rates back up? But then you have most developed nations in the grip of austerity fever and so are reluctant to offer more bonds because somehow the mantra "debt is bad" became a thing very serious people have taken, well, seriously.

It seems to me that this is the ideal time for government to increase spending by issuing bonds. But of course, they'll wait until interest rates start going up and borrowing becomes more expensive because as a group they're idiots.

 

[Metaphor]

The paragraph that is the most interesting (because I did not understand why anyone would buy bonds with a negative interest rate when literally doing nothing would be better):

This is a very good question. The basic financial mechanics of negative interest rates are easy enough to see. But why not just hold cash in your bank account? It's not entirely clear what's happening, but here are three major motivations that market insiders say are in play:

Safety: A bond is backed by the full faith and credit of the government that issues it. Bank accounts are only government-guaranteed up to a certain extent — most European countries cover 100,000 euros. Very rich people and big companies have more money than that and need to do something with it. Obviously you could fill shoeboxes with paper money, but there are safety risks with that, too.
Passive funds: Because people thought negative interest rates were impossible, few institutions have rules in place that were designed to accommodate this situation. Pension funds, mutual funds, and other impersonal investment vehicles have rules and formulae they're supposed to be following. To the extent that those rules call for the holding of safe bonds, some bond-buying can simply happen on autopilot.
Banks: Banks can't store their spare money in a bank account. Instead, they store reserves with a government-run central bank. A certain amount of reserves are required by regulators. But banks can also store "excess" reserves. The European Central Bank is currently charging a fee on excess reserves, which means it makes more sense to park excess cash in government bonds.

 

[dismal]

The paragraph that is the most interesting (because I did not understand why anyone would buy bonds with a negative interest rate when literally doing nothing would be better):

This is a very good question. The basic financial mechanics of negative interest rates are easy enough to see. But why not just hold cash in your bank account? It's not entirely clear what's happening, but here are three major motivations that market insiders say are in play:

Safety: A bond is backed by the full faith and credit of the government that issues it. Bank accounts are only government-guaranteed up to a certain extent — most European countries cover 100,000 euros. Very rich people and big companies have more money than that and need to do something with it. Obviously you could fill shoeboxes with paper money, but there are safety risks with that, too.
Passive funds: Because people thought negative interest rates were impossible, few institutions have rules in place that were designed to accommodate this situation. Pension funds, mutual funds, and other impersonal investment vehicles have rules and formulae they're supposed to be following. To the extent that those rules call for the holding of safe bonds, some bond-buying can simply happen on autopilot.
Banks: Banks can't store their spare money in a bank account. Instead, they store reserves with a government-run central bank. A certain amount of reserves are required by regulators. But banks can also store "excess" reserves. The European Central Bank is currently charging a fee on excess reserves, which means it makes more sense to park excess cash in government bonds.

It's not doing nothing that's better, it's holding cash. Some people just don't have a mattress big enough to hold $100 million I guess.

 

[Axulus]

http://www.vox.com/2015/2/5/7981461/negative-interest-rates-europe

Something really weird is happening in Europe. Interest rates on a range of debt — mostly government bonds from countries like Denmark, Switzerland, and Germany but also corporate bonds from Nestlé and, briefly, Shell — have gone negative. And not just negative in fancy inflation-adjusted terms like US government debt. It's just negative. As in you give the owner of a Nestlé bond 100 euros, and four years later Nestlé gives you back less than that.

Negative interest bonds don't sound like a good thing to be happening.

If demand is that high for certain bonds then shouldn't more of them get offered to meet the demand and bring interest rates back up? But then you have most developed nations in the grip of austerity fever and so are reluctant to offer more bonds because somehow the mantra "debt is bad" became a thing very serious people have taken, well, seriously.

It seems to me that this is the ideal time for government to increase spending by issuing bonds. But of course, they'll wait until interest rates start going up and borrowing becomes more expensive because as a group they're idiots.

It's also a sign that people believe that deflation or minuscule inflation is going to grip the euro-zone. The central bank needs to pump more money.

 

[ksen]

Uh, that's the headline of the story so . . .

 

[Axulus]

The paragraph that is the most interesting (because I did not understand why anyone would buy bonds with a negative interest rate when literally doing nothing would be better):

It's not doing nothing that's better, it's holding cash. Some people just don't have a mattress big enough to hold $100 million I guess.

But why not hold the money in the safest German or Swiss bank account? Are people really fearful that the most solid German or Swiss banks will fail?

 

[ksen]

The paragraph that is the most interesting (because I did not understand why anyone would buy bonds with a negative interest rate when literally doing nothing would be better):

It's not doing nothing that's better, it's holding cash. Some people just don't have a mattress big enough to hold $100 million I guess.

Couldn't even negative interest bonds be a hedge against deflation if the negative interest rate is less than the deflation rate?

 

[Axulus]

It's not doing nothing that's better, it's holding cash. Some people just don't have a mattress big enough to hold $100 million I guess.

Couldn't even negative interest bonds be a hedge against deflation if the negative interest rate is less than the deflation rate?

It doesn't hedge because the alternative is holding cash in an account with a 0% rate, which is superior to a negative rate. The only risk that would prevent someone from doing that is if they think there is a chance the bank will fail. But then again, what guarantee is there that Nestle will honor their debt if all the cash they hold is in banks that fail, suggesting the economy is seriously screwed up, making it less likely Nestle will have positive operating cash flows and be able to collect money owed to it. Doesn't make much sense to me.

 

[ksen]

If there's, let's say, a deflation rate of -1.9% and you can buy bonds with a negative interest rate of -1.2% then you've saved 0.7% of your purchasing power.

 

[dismal]

An economist would have a qualifier on it like "in the absence of transaction costs, legal impediments, etc."

In a frictionless world it would be possible, but not be expected to happen.

But in a world where banks charge you for deposits and mattresses full of cash aren't practical or costless options no one would argue that.

 

[Axulus]

An economist would have a qualifier on it like "in the absence of transaction costs, legal impediments, etc."

In a frictionless world it would be possible, but not be expected to happen.

But in a world where banks charge you for deposits and mattresses full of cash aren't practical or costless options no one would argue that.

Are European banks charging account holders for deposits, meaning that they are in effect offering a negative interest rate as well?

 

[dismal]

If there's, let's say, a deflation rate of -1.9% and you can buy bonds with a negative interest rate of -1.2% then you've saved 0.7% of your purchasing power.

Cash in a mattress pays 0%. Cash sitting in a bank used to always pay 0+%.

You would not accept a negative return due to deflation you would accept it only to the extent it was a cheaper and/or more practical option than the above.

 

[Axulus]

If there's, let's say, a deflation rate of -1.9% and you can buy bonds with a negative interest rate of -1.2% then you've saved 0.7% of your purchasing power.

But if you can just hold it as cash in a cash account at a bank, you save the full 1.9% of your purchasing power.

 

[Metaphor]

If there's, let's say, a deflation rate of -1.9% and you can buy bonds with a negative interest rate of -1.2% then you've saved 0.7% of your purchasing power.

No, you haven't.

$100 in cash after a year: $100
$100 with negative 2% interest after a year: $98

This is the case no matter what happens to prices in the meantime. $100 buys more goods than $98.

 

[dismal]

An economist would have a qualifier on it like "in the absence of transaction costs, legal impediments, etc."

In a frictionless world it would be possible, but not be expected to happen.

But in a world where banks charge you for deposits and mattresses full of cash aren't practical or costless options no one would argue that.

Are European banks charging account holders for deposits, meaning that they are in effect offering a negative interest rate as well?

Giving you a negative return, not necessarily charging you a negative interest rate. It's not necessarily structured as interest.

 

[ksen]

If there's, let's say, a deflation rate of -1.9% and you can buy bonds with a negative interest rate of -1.2% then you've saved 0.7% of your purchasing power.

No, you haven't.

$100 in cash after a year: $100
$100 with negative 2% interest after a year: $98

This is the case no matter what happens to prices in the meantime. $100 buys more goods than $98.

That makes sense.

 

[crispy]

This is actually creating a new housing bubble here in Denmark in my opinion - people get such crazy cheap loans, where you only have to pay the interest rate, and not pay back on the loan, that people on even small salaries can loan quite a lot of money to buy houses/apartments for - in the end driving housing prices up through the roof, way higher than what they are worth. As soon as the interest rate goes up again the prices go down, and everybody who bought houses the last year or two will loose quite a lot of property value....

 

[ksen]

working as intended

 

[arkirk]

You didn't think corrupt U.S. banking would not spread worldwide did you? Corruption is contagious...especially if you have the means to be corrupt (be a banker) or be the CEO of something like Nestle or Bayer...major suppliers of pollution to the world.

 

[barbos]

Idiots, they they have not heard about rates greek banks offer.