Clearly, the purpose of negative interest rates is to increase borrowing, but that can be analogous to “pushing on a string.” You cannot make businesses or people borrow, if they fear the future. Negative interest rates would increase the supply of funds to be borrowed but not necessarily the demand to actually borrow those funds. Six central banks have already adopted the concept, but it is still too soon to gauge any success. The Fed has said it is simply studying the concept.
Is pushing down interest rates good for the economy? If so, how much? Former Fed Head Ben Bernanke said modestly negative rates will have no effect. How much longer should savers be penalized with low rates? Does the interest rates on bonds really reflect the underlying credit risk? I think not, and this greatly affects the traditional asset allocation between stocks and bonds. Does that increase risk for the average investor? Probably!
Plus, banks are more likely to lend money, when they are already profitable. Negative interest rates would actually reduce profitability of banks, because the Fed would no longer pay banks for their reserves held at the Fed and would require banks to pay the Fed for the privilege of leaving money at the Fed. Bank of America estimates its earnings-per-share (EPS) would drop 7%. Instead of encouraging loan growth, negative interest rates may discourage loan growth. In addition, other banking fees paid by customers are almost certain to increase.
Economists are busy cranking up arcane econometric models of negative interest rates, but nobody really knows the impact. The great unknown revolves around the impact such interest rates will have on the velocity of money or how many times will the money supply be used in a year. Nobody knows.
Investment genius Warren Buffett also has a genius for crystallizing complex subjects. He said negative interest rates make money in the mattress more valuable than money in the bank. He’s right, because you don’t have to pay your mattress to store your money.
From my perspective, this is the turning point, when monetary policy is virtually exhausted, and the economy can wait no longer for fiscal policy, which is controlled by Congress. If Congress remains impotent, the Fed may be forced to buy a little extra time by using negative interest rates, but I hope not. Negative interest rates are not good . . . unless you are desperate!