ZIRP and NIRP. Not so long ago they were just economic theories treated with curiosity and disbelief. Now they are reality. The words are acronyms for Zero and Negative Interest Rate Policies. NIRP is the ultimate manifestation of stupidity in the global financial system.
Welcome to the Monetary Twilight Zone. Photo by 401(K) 2012 and licensed under CC BY-SA 2.0.
Greed causes recklessness and outright stupidity. It’s what led to the Financial Crisis of 2007-2008, which in turn caused the Great Recession. Driven by a belief that monetary stimulus can solve all of our problems, central banks all over the world engaged in massive money printing operations.
The term money printing is naturally avoided by officials and mainstream media. They prefer euphemism like “Quantitative Easing" or codenames like OMT and "Operation Twist". But even in economics a duck is a duck and when a central bank conjures money by hitting CTRL-P on the keyboard – it's money printing.
Occasionally stimulus is okay, as long as it's done in a responsible way both fiscally and monetarily. Most people agree with this view. In Europe and Japan the governments have however not been able to do their part properly. Politicians have failed to take necessary actions on the fiscal side and to a large extent neglected important structural reforms.
Problem solving has therefore been outsourced to the central banks, a situation ECB head Mario Draghi has complained about repeatedly. The central banks have tried to solve problems with the tools available, i.e. with money printing, verbal jawboning, and increased control of the financial system.
As the available measures have one by one been exhausted, without any major positive results, the central banks have gone one crucial step further – they've employed desperate measures. That's the only way to describe negative interest rates.
If you look for pros and cons of negative interest rates, you'll find a lot of confused analyses. It's understandable because central banks are now engaging in experimentation we've never witnessed before. It’s more than appropriate to call it a "Monetary Twilight Zone".
The logic behind BOJ's and ECB's rate decisions is that if they punish banks that hoard cash with a negative deposit rate, the banks will be more eager to give loans to businesses or weaker lenders. They hope this would boost consumption and investments, which in turn would result in GDP growth and inflation. There is of course no guarantee that this will actually happen.
Personally I believe that nothing good will come out from negative interest rates. Instead it will increase uncertainty in the economy and worsen the global debt spiral. As McKinsey & Co showed in their 2015 report, global debt has grown by $57 trillion since the financial crisis. Think about it – a recession that had it's origin in the bursting of a credit bubble is being fixed by building a larger credit bubble. It’s illogical and unsustainable. What the world needs is less debt, not more, and a return to normal economic policies.
Negative interest rates will make life very difficult for pension savers and pension funds in general. They are supposed to keep most of their assets in fixed income instruments, many of which already have negative yields. Banks will avoid imposing negative interest rates on their customers’ deposits for as long as they can, but once that occurs (and it will) there will be a massive bank run on the system. Keeping cash stashed under the mattress will be considered a high-yield investment. It's sick and should be avoided at all costs.
How can we avoid it? Unfortunately there are no easy solutions. If there were they would have been adopted long ago. The only solution I can see is that politicians shape and do the reforms everybody knows are necessary. That would restore confidence in the political and economical systems. It would inspire companies to invest and consumers to consume.
We also need to reduce our debt. There’s no way getting around it and it will be a painful process, because we've been indoctrinated with a vicious and totally irrational belief that we can spend more than we make. It’s obvious that not all debt will be repaid. There will be a lot of haircuts, and I’m not only talking about Greece, which is just a drop in the ocean. But it’s better to act now, while we’re still in control, instead of waiting for panic and distress.