Federal Reserve officials are content to watch others’ experience of negative rates from a distance
Fed officials don’t think negative rates are needed in the U.S. because the economy and job market are improving, and they are hoping they will never have to use them in the future given their uncertainty about whether the policy works.
Fed Chairwoman Janet Yellen didn’t even mention the idea in a discussion of the Fed’s options for the economy should recession hit the U.S., and other officials speaking on the sidelines of the Fed’s annual retreat here over the weekend made clear it is an approach they would like to avoid.
“I’m treating [negative rates] as an experiment that we have the luxury to watch from a distance,” Dennis Lockhart, president of the Federal Reserve Bank of Atlanta, said in an interview at the Fed’s annual Jackson Hole conference in the Wyoming mountains.
The Fed’s aversion to negative rates shows how central bankers are confronting the limits of their efforts to stimulate the slow-growing global economy.
Negative rates are like a central bank’s version of the children’s game of hot potato—the potato being money nobody wants to get left holding. Commercial banks are charged for leaving funds on deposit with the central bank. By imposing a cost on parking money safely there, the policy aims to induce banks to lend their money elsewhere, to consumers and businesses, where they can earn higher returns. That risk-taking, in turn, is meant to spur economic growth.
Central banks in Japan, the eurozone, Denmark, Sweden and Switzerland have adopted negative rates with mixed effects. The Swiss National Bank ’s policy rate is -0.75%, the Bank of Japan ’s is -0.1% and ECB’s is -0.4%.
Negative rates are highly unpopular in many places because households are unhappy they earn such low returns on their savings and banks worry it squeezes their profit margins.
Subzero rates also have had some unintended effects. In Japan, negative rates were accompanied by a rising currency, the opposite of the central bank’s expectation.
In Switzerland, banks responded to negative rates by making mortgage borrowing more expensive and not less as hoped. Consumers are saving more in Germany, Japan, Sweden, Switzerland and Denmark, even though the aim is to prod consumers to save less and spend more.
Still, central bankers here said negative rates showed signs of working in many of their intended ways.
Yields on 30-year Japanese government bonds dropped from about 1.5% before Japan adopted negative rates in January to less than 0.5%. That could in turn drive borrowing, spending and investing in Japan, as intended.
“Declines in long-term borrowing costs have stimulated firms’ demand for long-term funding and households’ demand for mortgage loans, thereby benefiting a wide range of borrowers,” BOJ Governor Haruhiko Kuroda said here. “A significant increase in issuance of corporate bonds with a maturity of 20 years or even longer has been observed.”
European Central Bank data released this week showed loans to households were up 1.8% from a year earlier in July and loans to nonfinancial corporations up 1.9%. That is modest but still reverses a contraction in lending in the months before negative rates were introduced.
Some worry that negative rates squeeze bank profits. However net income at European banks rose to 51 billion euros in 2015, compared with 31 billion in 2014, according to the ECB.
“Negative rates work and are nothing extraordinary or immoral or absurd,” European Central Bank executive board member Benoît Coeuré said of the eurozone’s experience of negative interest rates so far. Still, speaking to the lingering trepidation about the policy among central bankers here, he said he is cautious about pushing rates “to much deeper negative levels .”
At a panel here, academics wondered whether central banks could push interest rates more deeply into negative territory by doing away with cash or imposing costs on households holding it. Cash is an impediment to imposing negative interest rates. Households and businesses can hoard it to avoid paying the penalties imposed when depositing funds in banks.
Central bankers here were reluctant to embrace the idea of pushing the policy much further, even as they defended its effects.
“There are many outstanding issues,” Marianne Nessén, who heads the Swedish central bank’s monetary policy department, said during a discussion at Jackson Hole. “Even if the experience with mildly negative interest rates has been roughly as expected, I’m not sure that we conclude that deeply negative interest rates will work in the same manner.”
“At the heart of all this lies concerns that future growth prospects are lower than we have seen in the past decades, but the remedy for that does not lie with monetary policy. It must be found elsewhere,” she said.
One growing source of uncertainty is the effect of negative rates on household saving behavior. Low and negative rates aim to induce households to spend, but critics of these policies say the effect is the opposite. People who are trying to stockpile funds for retirement might be induced to save even more if the funds they’ve got are bleeding returns.
“The idea that low interest rates are punishing savers is a very ripe issue,” said James Bullard, St. Louis Fed president. “Everyone is doing a lot of soul-searching about these issues.”
For now the Fed doesn’t need to contemplate negative rates because the U.S. economy is improving and officials are looking to gradually raise rates from exceptionally low levels.
Ms. Yellen in her talk Friday sought to lay out a roadmap for how the Fed will proceed the next time there is an economic downturn and it turns back to rate cuts to stimulate growth.
She said the Fed would seek to lean on tools it used during the postcrisis period. This includes purchases of Treasury or mortgage bonds to drive long-term interest rates lower. Ms. Yellen suggested the Fed might even expand its purchases beyond these conventional investments. The Fed would also turn to assurances that rates will stay very low far into the future, she said.
On negative rates Ms. Yellen was silent.