Should you be worried about negative interest rates?
Can you imagine having to pay your bank to hold your money for you? Outrageous, right? That’s what could happen if we move to negative interest rates.
Already, nearly $10 trillion of government bonds around the world are yielding negative interest rates, according to Fitch Ratings. Most of this negative yielding debt comes from Japan and Eurozone countries.
Sweden started the negative interest rates trend when it took rates below zero for a brief time in 2009 and 2010. Denmark joined the club in 2012 followed by the European Central Bank in 2014. Switzerland and Sweden (for the second time) are the most recent countries to offer negative interest rates.
Why Would Rates Go Negative?
Under normal circumstances, when a country’s economy starts to slow down or goes into recession, the government has a couple options to try to jumpstart economic growth.
First, they can use fiscal policy. This involves increasing government spending or changing tax policies in ways that are favorable to businesses and consumers. The Executive and Legislative branches of government carry out fiscal policy in the U.S.
Second, they can use monetary policy. This involves changing the level of interest rates and the total supply of money in the economy. In theory, lower interest rates helps stimulate the economy by encouraging companies to borrow money, make new investments, and create jobs. The Federal Reserve handles monetary policy in the U.S.
Historically, central banks, such as the Federal Reserve, lowered interest rates to close to zero when the economy needed a kick—and that usually did the trick. But this time, the great recession of 2007 - 2009 took such a bite out of the economy that certain central banks around the world decided zero was not low enough.
As an example, 2-year government bonds in Germany yielded a negative 0.51% as of May 6. This means if you bought a 2-year German bond, the value of your investment would actually decline by about a half percent per year. You would be paying the government of Germany to hold your money!
Fortunately, the United States still has positive interest rates. Compared to the German 2-year bond, the equivalent 2-year U.S. Treasury note yielded a positive 0.73% as of May 6. Not much but at least it’s still positive.
Even though interest rates are above zero in the U.S., that does not necessarily mean we are unaffected by what’s happening in other countries. Since we live in a global economy, as rates decline further below zero around the world, that has a tendency to pull our interest rates down with them.
A Potential Problem With Negative Interest Rates
Since the great recession, the Federal Reserve has engaged in monetary policy and added more than $3.5 trillion dollars to its balance sheet by buying bonds through a program called quantitative easing. These massive bond purchases essentially flooded the market with “cheap money” and led to unprecedented low interest rates here in the U.S.
The problem with all this money sloshing through the system and the low interest rates is we are essentially in unchartered territory.
Billionaire hedge fund manager Stanley Druckenmiller recently said, “By most objective measures, we are deep into the longest period ever of excessively easy monetary policies.” He went on to say Federal Reserve policymakers, “have no end game, they stumble from one short-term fiscal or monetary stimulus to the next, despite overwhelming evidence that they only produce an ephemeral sugar high and grow unproductive debt that impedes long-term growth.”
What did this $3.5 trillion get spent on? “Most of the debt today has been used for financial engineering, not productive investments,” said Druckenmiller. By financial engineering he means companies used the cheap money to buy back stock and for mergers and acquisitions instead of using it to fund new business opportunities.
In short, we don’t know how central bankers around the world will get us out of this negative to low interest rate economic environment and back to a normalized level where savers get paid a decent return on their money.
Next Steps
Although having negative interest rates in other parts of the world and very low interest rates in the U.S. is concerning, our economy continues to march forward. The U.S. unemployment rate is very manageable at 5.0%. We continue to add new jobs in the U.S. at the rate of 160,000 to 200,000 per month. And new claims for unemployment benefits are near historic lows.
Some people may say we’re in the calm before the storm (although a good many of those people are always saying something of that nature). And while we can’t predict the future, please know that we keep a keen eye on what’s happening and are here to discuss how these changing economic and market conditions may affect you and your plan.
If you have any questions about today's post or your specific financial situation, please give us a call at (913) 624-1841 or send me an email at bkeen@keenwealthadvisors.com.
We are here to help you.Sources:
http://www.ft.com/intl/cms/s/0/f8117512-1297-11e6-839f-2922947098f0.html#axzz47zgaUsaf
http://www.bloomberg.com/quicktake/federal-reserve-quantitative-easing-tape
http://www.valuewalk.com/wp-content/uploads/2016/05/The_Endgame_Sohn.pdf
http://www.wsj.com/articles/negative-interest-rates-yield-positive-resultsso-far-1425489466?cb=logged0.9548364671768055
About Bill
Bill Keen is a CHARTERED RETIREMENT PLANNING COUNSELOR℠ and independent financial advisor with more than 25 years of industry experience. As the founder and CEO of Keen Wealth Advisors, a registered investment advisory firm, he specializes in providing personalized retirement planning designed to help people thrive before and during their retirement years. With a passion for educating others, Bill regularly blogs about retirement planning, hosts the podcast Keen on Retirement, and has contributed to U.S. News and World Report, Reuters, Wall Street Journal’s Market Watch, Yahoo Finance, and other publications. Based in Overland Park, Kansas, Bill and his team work with clients throughout the greater Kansas City area and across the nation. To learn more, connect with him on LinkedIn or visit www.keenwealthadvisors.com.
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