Saturday, October 15, 2016

Negative Interest Rates - Another Way To Screw Savers

Even as Federal Reserve Chief Janet Yellen, in today's Financial Times, warned that  "policy makers must be able to act quickly when a recession strikes", it is a fact that the Fed's latitude for action has been whittled down over the past ten years.  This is because the interest rates are still near zero and in times of monetary crunch one of the first options is to lower rates. low can the Fed go? Well, maybe into negative rate territory.

It's been known for some time now, at least the past 18 months, that many in the financial sector -including Federal Reserve members - have been seriously considering the implementation of negative interest rates. As to why, it's not exactly 'rocket science'. With interest rates just barely a click (25 basis points) above zero, the Neoliberal economics mavens are pondering what to do in the event of another recession, say for economic stimulus.  And, to be sure, if Trump somehow gets in a major recession is almost certainly in the offing according to many with an eye on jittery markets.

As to what to what to do, well the current rates could be lowered to zero, but then what? Well, these "rational economists" suggest negative rates must be next- something already being tried in Denmark, Switzerland and Sweden as an experimental policy. With negative interest rates, as you might imagine, savers and bank depositors are dinged not given money back. Rather then being paid on deposits, as is the case with regular interest, savers are charged for parking their cash.

So, let's say you have $100,000 accrued in various fixed income accounts, say money markets. And assume negative interest rates have been applied and are now at- 0.5 percent. Then each year your accounts will go down by $500, assuming you don't put any more money in. Thus, after ten years at that negative rate - god forbid - you'd be out $5,000.  It's bad enough the current near zero rates are an affront to savers, and recklessly subsidize borrowers. But in a negative interest rate world insult would be added to injury - or perhaps more accurately, the converse.

As Rob Kapito, of BlackRock Investment noted two mornings ago the 25 basis point interest rate as it is, amounts to a tax on retirees, seniors who depend on interest income. This is because they earn less via interest than what they are spending on meds, rent, food etc. But his advice for seniors to jump into the stock market and equities - to make up for the lack of interest income - is a non-starter. While he bemoans so much cash just sitting around.

A Reuters article, e.g.

claims Kapito "sees $70 trillion in cash sitting on the sidelines that could boost stocks" - but why would you want to inflate an already unstable asset bubble even  further?  As  Paul J. Lim observes  in a recent article on the interest crunch (TIME  , Negative Rates Get A Second Look', Sept. 26, p. 12):

"As far as retirement plans go, fewer investors are taking big risks with equities - also welcome news".

Going on to note how many 401k participants lost their shirts in the 2007 -08 meltdown. As for Kapito, as the President of an investment firm like BlackRock he'd always want more money in the stock market - to feed traders' fees, commissions etc.  But a larger equities bubble is the last thing we need right now.  As it is up to 3 out of 4 stocks are overvalued based on their P/E ratios.

Indeed, the Employee Benefits Research Institute reminded people (ibid.) that just before the 2007 crash people over 60 had locked 80 percent of their 401ks into equities. When the market melted down, and the Dow lost over 700 points, many of those investments lost up to 50 percent of their value. Many retirees also had to go back to work to make that lost money back.

The perverse  reasoning of the "rational" economists appears to be that rather than let their money just sit and be bled down, people will spend it or invest it in the stock market. Thereby either fueling more mindless consumption or feeding the already 'crack-happy' P/E ratios run amuck on Wall Street.  (Though one economist writing an op-ed in the NY Time Business section did express fear certain "deplorables" would just withdraw all their money and stuff it under mattresses. )

In fact, it already appears this misbegotten policy, implemented in Switzerland (- 0.79 % rate), is spurring businesses not to spend but to hoard cash outside the banking system.  Meanwhile, in Denmark and Sweden - which also have negative rates - savings are rising, not falling in response.

What to make of this? Robert Pozen, a senior lecturer at MIT's Sloan School of Management, quoted in TIME (Sept. 26, p. 12), said:

"This is another example of the rational economist not understanding the real world'

You don't say, Sherlock!  No surprise that he doesn't think the Federal Reserve would be wise to implement negative rates - no matter how desperate it may be to control the economy.

Another reason is that even now, with near zero rates, Americans are hunkering down with higher savings rates.  (Savings as a share of disposable income has risen to 5.7 % up from 4.6% in 2013 and 2.5% in 2007).  So they're not being driven into spending like Trump, or investing in risky equities - especially with a massive asset bubble ready to burst.  As the same TIME article notes (ibid.): "Instead of doing what the Fed wants by investing aggressively and borrowing more American households have  generally worked on improving their finances".

The implicit signal to the Fed then is, if you want to see your plan backfire and savings rates increase even more, just go ahead and try to implement that negative savings rate balderdash.  In truth, the Fed ought to be seeking to rein in the asset bubble they've created by infusing so much crack....errrr quantitative easing free money. There is a good case to be made, in fact, to have a 0.5 % interest rate increase by the end of the year and at least 1.0 % increase by May next year. That would bring up interest rates to a total of 1.75% over what they were and provide room to maneuver if the worst comes to worst and a recession rears its ugly head.

If the Fed doesn't raise interest rates, savers still possess the ultimate "lever" by continuing to save as opposed to spend, or invest in a stock bubble. According to Stuart Ritter, senior resident for wealth strategy at PNC's asset management group: "Savings is not only the most powerful lever you have it's the one that's most in your control."

Especially to hold the Fed to account, at least until they come to their senses and start giving savers the respect they are due- in the form of much higher interest rates.

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