Since the dawn of time, human beings have come up with clever ways to justify foolish ideas they hold. Nevertheless, it is sometimes stunning to see the depths to which otherwise intelligent people will go in order to hold onto ridiculous ideas. An example of this can be found in the never-ending quest by policymakers to implement negative interest rates.
Showing the unintended consequences of negative interest rates
On August 8th, The Wall Street Journal published a very good article about the unintended consequences of negative interest rates. Central banks impose negative interest rates to encourage people to spend or invest their money, rather than keep it in the bank. However, the article highlighted two people who, for different reasons, decided not to act in a manner policymakers wanted. For example, Heike Hofmann, who runs a fruits and vegetable stand in Germany, reduced her spending to buy gold. Tatsuro Takahashi, who operates a food truck in Tokyo, has no desire to borrow money to expand his business, because he thinks it would be risky.
However, the most fascinating part of the story was at the end. According to the article, University of Michigan economist Miles Kimball thinks that rates should be lowered even further:
If people are getting scared by negative rates, he says, it is the fault of central banks’ inability to communicate effectively, not the policy itself.
“They should say that this is a normal tool of policy,” he says, “and then people wouldn’t freak out.”
In other words, the experts should try to convince you and me that imposing a negative interest rate is a “normal tool of policy”. In his mind, people aren’t freaking out because the policy is flawed, but because the central banks don’t know how to talk to us.
The problem with his position is simple: it’s not connected to reality.
Negative interest rates are impossible without outside interference
In a recent presentation, James Grant noted (h/t zerohedge) that Sidney Homer and Richard Sylla, the authors of A History of Interest Rates , found no instance of negative rates in 5,000 years. The reason for positive interest rates is, once again, simple. Because people value present goods more than future goods, borrowers pay lenders interest to compensate them for not being able to use that money over the period of time of the loan. There are no reasonable circumstances under which a lender would accept a negative interest rate. Why would I lend someone $100 today so I would get $98 back a year from now? The only reason negative rates would arise is if a third party, such as a central bank, manipulated the capital markets to such an extent that the resulting “interest rate” is below zero.
Central banks impose negative rates because they expect people to increase spending, rather than keeping their money in a bank. However, they don’t always think through all of the consequences:
Though savers are yet to hoard cash in their mattresses, negative rates could have other consequences. Negative funds rates squeeze banks’ profit margins. Low enough rates could cause many to become unprofitable. Pension funds depend on bond yields to meet their payment requirements. Grant says it is now impossible for them to hit 7% return targets. Insurance companies invest their premiums in fixed income, and are “dying on the vine” according to Grant.
Implementing the impossible
There is nothing normal, or natural, about negative interest rates. Nevertheless, there is at least one economist who wants them characterized as a “normal tool of policy.” Rather conceding their impossibility, Dr. Kimball thinks that if central banks could somehow talk about negative rates the right way, the public will respond properly.
The public, however, is not one giant blob that responds solely to external stimuli. Society consists of individuals who interact with one another. Individuals will do what’s in their best interest, as they define it, regardless of attempts by policymakers to force them to take particular actions.
Unfortunately, such observations will not prevent central banks from attempting to implement the impossible. In fact, according to his blog, Dr. Kimball has been spending quite a bit of time with central banks to talk to them about negative rates. He believes that “[u]nder the surface, there is a much bigger consensus [about negative rates] than what you would assume.” (Grant agrees.)
Attempting to normalize the absurd
For at least the past 100 years, the dominant ideology in American, and increasingly global, politics has been progressivism. James Ostrowski, in his book Progressivism, defines it as a “mindset that favors the use of aggressive government force to solve social problems.” Under progressivism, only those within government have the power to decide what the social problems are and how they are to be solved. Everyone else is part of the blob that exhibit symptoms that needs to be solved.
The fact that central bankers are even contemplating negative interest rates underscores the desperate circumstances in which they find themselves. They present themselves as the global economy’s problem solvers. However, the more they impose their will on the economy, the more glaring the economy’s problems are displayed. Nothing that central banks and governments have done over the past ten years have worked.
And yet with all of this, Dr. Kimball wants central banks to implement the absurd. In many ways, he is like far too many progressive elites, who think that problem X will be solved if we just doubled down on the previous horrible policy. While “experts” continue implementing ideas with passionate intensity that do nothing but destroy, everyone else bears the cost.
I have no idea how this will be resolved. However, as central banks continue negative rates, more people will act like Heike Hofmann and Tatsuro Takahashi. At some point, enough people recognize the absurd for what it is. Until then, we need to find a way to remember what normal looks like, and be patient in the meantime.