Negative Interest Rate Policy (NIRP) risks/benefits?

[permabear]

Anyone have any good books/resources on NIRP? Case studies of its application in Europe? Has this ever been done before?

 

Also appreciate anyone's opinion on the matter.

 

Cheers

[Guest Schwab711]

I remember a professor telling me this wasn't possible not that long ago. Super interesting topic. Wish I knew more to discuss with you but here's some of what I have on it (I assume you can find Bloomberg/Reuters articles on your own).

 

Google Scholar is always a great place to start

 

Academic/White Papers I've collected:

What happens with repos

Negative interest rates in Europe

THE CASE OF THE NEGATIVE NOMINAL INTEREST RATES: NEW ESTIMATES OF THE TERM STRUCTURE OF INTEREST RATES DURING THE GREAT DEPRESSION (1987)

new volatility conventions as a result of negative interest rates

~Empirical Comparison of Alternative Models of the Short-Term Interest Rate (1992)

Another Repo paper with negative interest rates (2004 - Fed White Paper)

 

I prefer the older papers on the topic to compare with what folks talk about today. If you are interested in quant-theory or modeling, there's a lot of papers that look cool but I don't understand (I'm tired of linking).

http://www.fabiomercurio.it/LMMpostcrunch5.pdf

http://ieor.columbia.edu/files/seasdepts/industrial-engineering-operations-research/pdf-files/Brigo_D.pdf

 

Just in case you like weird interest rate theory in general, I liked this.

https://www.princeton.edu/~pkrugman/interstellar.pdf

 

Is there anything in particular about negative interest rates you find interesting? I'm pretty sure this is uncharted territory for many. I'm not sure if the old adage that you can "always just hold cash" is true anymore (unless they were to print higher denomination bills or traveler's cheques were to make a comeback). Would AXP want to sell traveler's cheques in a negative interest rate environment?

 

Yields of this small a magnitude can be explained by both the fact that Treasury

Bills were exempt from personal property taxes in some states {See Homer

(1976) pg. 355.] and that Treasury securities were required as collateral for

a bank to hold U.S. Government deposits. Negative nominal yields on the

order of -2% are an entirely different story. In fact, from mid-1932 through

mid-1942, the vast majority of coupon bearing U.S. Government securities

bore negative nominal yields as they neared maturity.

[Eye4Valu]

Buffett was saying that NIRP in Europe makes it difficult for Fed to truly lift off. We may see some smoke at the meeting next week, but not a rocket launch.

[TwoCitiesCapital]

Buffett was saying that NIRP in Europe makes it difficult for Fed to truly lift off. We may see some smoke at the meeting next week, but not a rocket launch.

 

I think they'll raise rates - probably bump two or three times over the course of the next 12 months so they can save credibility. At that point, they'll probably have to do what every other central bank has done trying to get off the zero-bound. Revert and cut rates again.

 

Gundlach is right - if economic data didn't justify a hike previously, there is no way that the data coming out right now supports monetary tightening...

[permabear]

Is there anything in particular about negative interest rates you find interesting?

 

Thanks for all the links, Schwab! Appreciate it. Canada's central bank just recently updated the lower bound of their interest rate policy, dipping into negative territory @ -0.5% so firstly I would like to better understand NIRP. But really, I think central bankers are clueless and further tinkering with interest rates will not solve anything (just push problems into the future and make them bigger). I also find it funny that just a few years ago I would hear people saying, "interest rates are so low, there's nowhere to go but up!" Well, that's not true when you get into NIRP and the scary thing is, there really is no lower bound as rates can just continue to get more negative.

[Mark Jr.]

The mere reality of NIRP is conclusive proof that central planning of the economy by central banks simply doesn't work.

[Packer16]

I am not sure NIRP is policy more than the result of bankers not allowing the money supply to increase enough to offset the real deflation in the market.  IMO we are in a long-term deflationary cycle that will continue until there is a some type of large capital destroying event (war, famine, disease or communist seizure of property are the typical types of events).  The book The Great Wave describes these through time.  The last time we were in a similar situation to today was the Victorian Era and there was deflation despite large increases in the money supply.

 

The reason for NIRP is deflation.  If nominal rates are kept positive but deflation occurs, real interest rates can crush an economy, this is what happened in the Great Depression in the US.

 

Packer 

[stahleyp]

Packer,

 

does that mean you're more conservatively invested than normal?

[Packer16]

Not at this time because the ERP (5%) is more than 3x the real risk-free rate of 1 to 1.5% for bonds.

 

Packet

[Uccmal]

I am not sure NIRP is policy more than the result of bankers not allowing the money supply to increase enough to offset the real deflation in the market.  IMO we are in a long-term deflationary cycle that will continue until there is a some type of large capital destroying event (war, famine, disease or communist seizure of property are the typical types of events).  The book The Great Wave describes these through time.  The last time we were in a similar situation to today was the Victorian Era and there was deflation despite large increases in the money supply.

 

The reason for NIRP is deflation.  If nominal rates are kept positive but deflation occurs, real interest rates can crush an economy, this is what happened in the Great Depression in the US.

 

Packer

 

The interesting thing about the late Victorian Era is that it was a time of relative peace and rising prosperity.  I think we are heading into, or in, a long period of technology driven deflation.  Goods get cheaper at an astoundig rate these days.  Smartphones, better than two year old Samsungs or Iphones, for under $100.  If employment, or alternative income, is maintained, purchasing power rises.

 

As someone else said the fed will try the tightening experiment into next year, and probably stop at some point and hold tight, or even retrench.  Funny how Buffett worried about the US getting sold off piece by piece to foreigners.  With the USD sitting where it is the opposite may happen now. 

 

I think this deflation is driven by tech. developmemt rather than by monetary policy.  Producing goods and services is becoming a competitive arms race to the bottom.  Watsa is right for all the wromg reasons. 

 

 

[Packer16]

This technology driven deflation has also caused a measurement problem, when a product hits free how do measure prices or output.  An example is cameras.  A good part of the camera functionality has been subsumed into our phones so our productivity is up but it actual shows up a decline in the GDP when the opposite is true.

 

Packer

[Uccmal]

This technology driven deflation has also caused a measurement problem, when a product hits free how do measure prices or output.  An example is cameras.  A good part of the camera functionality has been subsumed into our phones so our productivity is up but it actual shows up a decline in the GDP when the opposite is true.

 

Packer

 

Its funny you mentioned cameras.  Digital cameras lasted all of 8 years.  Makes one want to avoid leading edge tech. 

 

A few months ago I bought my wife a Garmin GPS for running - nice device.  I priced a similar one with an optical heart rate monitor and it was over 300 cdn.  That was in Aug.  The price has already come down 30%.  I am in no hurry... 

 

Keith, do you remember when VCRs came out.  At the start you had to pay over a thousand for the device, and then 50 or 100 dollars for a store membership. 

 

Fortunately for the economy lots of people jump on the latest and greatest.  If they were all like me there would be no innovation.

[DTEJD1997]

Hey all:

 

Something I've been thinking about lately is the increase in the cost of education...vs...deflation in wages in many professions. 

 

Another "inflationary" aspect of education is the increase in people who hold degrees.

 

All the while, students are taking out larger & larger amounts of debt for an asset that is worth less & less as time goes by...

 

[TwoCitiesCapital]

I am not sure NIRP is policy more than the result of bankers not allowing the money supply to increase enough to offset the real deflation in the market.  IMO we are in a long-term deflationary cycle that will continue until there is a some type of large capital destroying event (war, famine, disease or communist seizure of property are the typical types of events).  The book The Great Wave describes these through time.  The last time we were in a similar situation to today was the Victorian Era and there was deflation despite large increases in the money supply.

 

The reason for NIRP is deflation.  If nominal rates are kept positive but deflation occurs, real interest rates can crush an economy, this is what happened in the Great Depression in the US.

 

Packer

[/quOTE]

 

The interesting thing about the late Victorian Era is that it was a time of relative peace and rising prosperity.  I think we are heading into, or in, a long period of technology driven deflation.  Goods get cheaper at an astoundig rate these days.  Smartphones, better than two year old Samsungs or Iphones, for under $100.  If employment, or alternative income, is maintained, purchasing power rises.

 

As someone else said the fed will try the tightening experiment into next year, and probably stop at some point and hold tight, or even retrench.  Funny how Buffett worried about the US getting sold off piece by piece to foreigners.  With the USD sitting where it is the opposite may happen now. 

 

I think this deflation is driven by tech. developmemt rather than by monetary policy.  Producing goods and services is becoming a competitive arms race to the bottom.  Watsa is right for all the wromg reasons.

 

Technology driven deflation has never really produced deflation on a mass scale that I'm aware of. Obviously, technological innovations have the ability to drive costs down in a single sector, but it's quite hard to move the CPI without having some relevant impact to housing/shelter given it's large weight. Further, technology has been getting cheaper for decades. Go look at what a computer would cost you in the 1980s and then consider the $600 piece of equipment in your pocket is 1000x more powerful. That didn't lead to massive deflation in anything other than personal computing....

 

I'm still willing to bet that deflation comes from the oversupply in the system. Demand was artificially elevated for a period of decades due to excessively easy credit. We tried to maintain that elevation with 7 years of 0 rates because if rates were too low for too long before, keeping that at 0 for 7 years makes complete sense! The difference is that this time around consumers have been changed. Pre-2008 they would spend their windfall from a 50% correction in gas prices. Now they save it. Pre-2008 they would overextend themselves to buy new cars. Now, despite a multi-year upward cycle in auto sales and the cash for clunkers program, the average age of cars on the road is still elevated relative to the past. Pre-2008 consumers would use their equity in their house as a piggy bank. Post-2008 that kind of behavior is much, much less likely.

 

The capacity that was built for an American consumer who was saving -2% a year is far, far too much for an American consumer saving 3-5% a year and that's not even considering the impact that recessions would have since we haven't seen once since 2008. I'm willing to bet that this overcapacity is what drives an extended period of deflation as that capacity gets worked off OR until the American consumer grows back into it. Either way, it will takes YEARS.

 

Then we can consider that Europe hasn't even deleveraged yet (consumers or banks) and that China seems to be dealing with the same credit hangover/oversupply issue that the U.S. had and you get a pretty large picture that makes global deflation seem like a relatively likely outcome. People say don't fight the Fed/ECB/BoC etc. I'd say the Fed/ECB/BoC are fighting hundreds of millions of consumers and that the consumers are likely to win out.

 

[Uccmal]

I am not sure NIRP is policy more than the result of bankers not allowing the money supply to increase enough to offset the real deflation in the market.  IMO we are in a long-term deflationary cycle that will continue until there is a some type of large capital destroying event (war, famine, disease or communist seizure of property are the typical types of events).  The book The Great Wave describes these through time.  The last time we were in a similar situation to today was the Victorian Era and there was deflation despite large increases in the money supply.

 

The reason for NIRP is deflation.  If nominal rates are kept positive but deflation occurs, real interest rates can crush an economy, this is what happened in the Great Depression in the US.

 

Packer

[/quOTE]

 

The interesting thing about the late Victorian Era is that it was a time of relative peace and rising prosperity.  I think we are heading into, or in, a long period of technology driven deflation.  Goods get cheaper at an astoundig rate these days.  Smartphones, better than two year old Samsungs or Iphones, for under $100.  If employment, or alternative income, is maintained, purchasing power rises.

 

As someone else said the fed will try the tightening experiment into next year, and probably stop at some point and hold tight, or even retrench.  Funny how Buffett worried about the US getting sold off piece by piece to foreigners.  With the USD sitting where it is the opposite may happen now. 

 

I think this deflation is driven by tech. developmemt rather than by monetary policy.  Producing goods and services is becoming a competitive arms race to the bottom.  Watsa is right for all the wromg reasons.

 

Technology driven deflation has never really produced deflation on a mass scale that I'm aware of. Obviously, technological innovations have the ability to drive costs down in a single sector, but it's quite hard to move the CPI without having some relevant impact to housing/shelter given it's large weight. Further, technology has been getting cheaper for decades. Go look at what a computer would cost you in the 1980s and then consider the $600 piece of equipment in your pocket is 1000x more powerful. That didn't lead to massive deflation in anything other than personal computing....

 

I'm still willing to bet that deflation comes from the oversupply in the system. Demand was artificially elevated for a period of decades due to excessively easy credit. We tried to maintain that elevation with 7 years of 0 rates because if rates were too low for too long before, keeping that at 0 for 7 years makes complete sense! The difference is that this time around consumers have been changed. Pre-2008 they would spend their windfall from a 50% correction in gas prices. Now they save it. Pre-2008 they would overextend themselves to buy new cars. Now, despite a multi-year upward cycle in auto sales and the cash for clunkers program, the average age of cars on the road is still elevated relative to the past. Pre-2008 consumers would use their equity in their house as a piggy bank. Post-2008 that kind of behavior is much, much less likely.

 

The capacity that was built for an American consumer who was saving -2% a year is far, far too much for an American consumer saving 3-5% a year and that's not even considering the impact that recessions would have since we haven't seen once since 2008. I'm willing to bet that this overcapacity is what drives an extended period of deflation as that capacity gets worked off OR until the American consumer grows back into it. Either way, it will takes YEARS.

 

Then we can consider that Europe hasn't even deleveraged yet (consumers or banks) and that China seems to be dealing with the same credit hangover/oversupply issue that the U.S. had and you get a pretty large picture that makes global deflation seem like a relatively likely outcome. People say don't fight the Fed/ECB/BoC etc. I'd say the Fed/ECB/BoC are fighting hundreds of millions of consumers and that the consumers are likely to win out.

 

Some good points about technology deflation.  You are correct to this point. 

 

What I am drivng at is that technology is going to displace workers in a big way.  Governments are hiding it so far by disabling people out, or paying people to do nothing via the military.  Finland, as a small example, is instituting welfare for everyone to counteract this effect.  The worker participation rates are saying alot that is not getting captured in general employment stats.

 

This time it is different.  In past major adjustments displaced workers always had somewhere to go.  Not so much now.  How long before a single, or pair of Barista's run an entire busy Starbucks? 

 

The upshot is that automation at foxconn, and its competitors will bring  the prices of manufactured goods toward the price of their commodity inputs.  Those jobs lost in the oil patch wont ever be coming back. 

 

In the past entrepreneurs, professionals, and high skill workers were exempt.  This time everyone's job is on the line. 

 

This is why there will be defaltion and why governments will continue handing out free money.  They dont know what else to do.