We’ve taken note of how commercial banks are pushing back against negative interest rates, which are killing their profits. As we wrote in June:
Central bankers are pressing onward with their failed negative interest rate experiment, oblivious to the damage that it is doing to banks and long-term investors like life insurers and pension funds.
Even more bizarre is the central bank assumption that by charging banks for reserves, they can force banks to lend. First, the very need to resort to negative interest rates results from crappy fundamentals. Entrepreneurs are not going to borrow to invest in new projects just because money is on sale. They invest because they see market opportunities; the cost of money being too high can constrain investing, but cheap money won’t produce loan demand in the absence of attractive projects. The only exception is activities where the cost of money is the biggest cost of doing business. That is the case for levered speculation.
Economists are way way late in the game acknowledging the need for more demand by calling for more fiscal spending.
But central banks ex the Fed act as if they can force business to take up the slack, as if banks can noodle them full of loans like geese and they will be forced to invest and hire as a result.
Second is that banks have to be leery of making any long-term loans now. Even though no end of ZIRP and negative interest rates is in sight, they know if the monetary authorities ever are in a position to increase interest rates, they will show losses on intermediate and long-term assets unless they have adjustable interest rates. And the losses will be biggest on the riskier loans, since credit spreads typically widen in a tightening cycle.
So it should come as no surprise that banks are starting to try to find ways to circumvent the central bankers’ nutty scheme. As we reported in March, some small Barvarian banks said earlier this year they were looking into keeping cash on premises rater than pay for parking deposits with the Bundesbank. Yesterday, Commerzbank saber-rattled that it might follow suit. . Japanese banks are also trying to slip the leash.
The Financial Times provides an update in its lead story today, Banks look for cheap way to store cash piles as rates go negative. The wee problem is, as the article makes clear, keeping lots of cash on hand is costly, so these initiatives look to be yet more empty protests than real threats. However, the bigger issue, as we’ve repeatedly stressed, is that banks aren’t going to run out and make more loans even with the central bank cudgel of negative rates, particularly when loan demand is weak. Key sections from the Financial Times account:
Europe’s highways are not yet jammed with heavily guarded trucks transporting money to top-secret locations, but if it becomes financially sensible for banks to hoard cash as rates are cut even further, the practice could undermine central banks’ ability to use negative rates to boost growth.
After the European Central Bank’s most recent rate cut in March, private-sector banks are paying what amounts to an annual levy of 0.4 per cent on most of the funds they keep at the eurozone’s 19 national central banks. This policy, which has cost banks around €2.64bn since ECB rates became negative in 2014, is intended to spark economic growth by giving banks the incentive to lend money out to businesses instead of holding on to it…
Fortunately for central banks, the hoarding of cash creates a host of other costs.
Part of it is storage and transport, though they are not the biggest problems….
Bank robbers, earthquakes and other unforeseen disasters, on the other hand, are a problem. Or rather, the delicate issue of finding an insurer willing to take on those risks while charging a reasonable fee…
The German banker said it is unlikely that cash hoarding would become a widespread practice. Rather, it is a good way of registering banks’ protest over the impact of negative rates. “It would be sensible for two or three banks … to make clear that there is a lower bound for interest rates,” he said. “I don’t think the Swiss National Bank will be able to cut rates again without insurers and banks trying to hoard cash.“[Hoarding cash] is in nobody’s interests. It would cost banks a lot and would clearly mean that central banks can’t really do anything to lower interest rates at the moment. Every side wants to avoid it.”
And as Amar Bhide points out in an op-ed in the pink paper today:
Sweden’s Handelsbanken is an exemplar of prudence, barely touched by the 2008 financial crisis. It operates globally like a small community bank, to the point that it has just fired the chief executive, reportedly for attempting to centralise power. Branches lend as they see fit but are required to scrutinise creditworthiness and shun dodgy borrowers. The target loan loss ratio is zero; low loan losses, in turn, allow the bank to offer competitively priced loans and personalised service to creditworthy customers.
Since it is better placed than lenders that rely on rule books or statistical models to assess the creditworthiness of entrepreneurs, Handelsbanken is also well positioned to satisfy the credit needs of small businesses. What is good for Handelsbanken is therefore good for long-term economic growth as well as for financial stability.
However, prudent case-by-case lending also undermines the stimulative effect of the loose money unleashed by central bankers. Experienced financiers with their fingers on the local pulse will not lend more to less worthy borrowers simply because of low or negative interest rate policies. If anything, easy money — for all the grand theories of its macroeconomic benefits — worries them.
Bhide argues that central banks should get out of the “manage the economy” business, return to their traditional focus of safety and soundness, and view economic growth as the byproduct of doing that job well. While that is a good idea in theory, the fact is that Anglo-Saxon style finance is based on lending against collateral, which is inherently prone to boom-bust cycle. A central banker would be widely criticized for choking off what he sees as a developing bubble, since they create growth and wealth until they go boom. And that’s before we get to the fact that a lot of what used to be lending is now origination with the intent to securitize. That means central banks now see their role as acting not just as lender of the last resort, but as Perry Merhling has put it, dealer of the last resort. Yet that sort of collateral-based, standardized model of lending is particularly poorly suited to making small business loans, which is why US banks have largely abandoned it. Central banks are pushing on a string not just for the traditional reason that putting money on sale in a weak economy won’t lead entrepreneurs to run out and expand; it’s also that the channels through which small business loans are made have been abandoned by most financial firms.
Despite the emerging economic consensus that governments need to do a lot more in the way of fiscal stimulus, particularly infrastructure spending, politicians on the receiving end of decades of neoliberal indoctrination are reluctant to turn on the spending spigot. So in the meantime, central bankers seem determined to increase the beatings until morale improves.
19 comments
Comments are closed.
In retail too, for credit cards, banks simply are not remotely interested in any sensible approach to their assessing borrower credit worthiness. The FICO score is everything, eligibility loan amounts (the line of credit on the card account) and product interest rates are all entirely rules-based. They literally are done via a spreadsheet. There is zero — absolutely zero — ability to amend the process and even if there were, there are no real credit decisioning science skills in the banks any more.
And as the article points out, correctly, it is all geared to securitisation anyway. The bank has little, if any, intention of holding the liabilities directly. The fees earned for the securitisation of the credit card receivables account for a fair chunk of the profit. The purchasers of the ABS don’t want anything apart from the plain-vanilla flavoured comfort food they are used to. And yet, staggeringly, the central banks are talking about more asset purchases. But there’s no shortage of buyers for these sorts of ABS assets, the search for yield has already resulted in rock-bottom prices.
Central Banks’ thinking about how the industry actually operates is about 20 years out of date.
Furthermore, although I’ve talked about retail here, credit cards are very often used for seed capital for small businesses, to ease cashflow or just to tide the business owner over through the lean months. But the lending criteria for undocumented salary earners or the self employed (part of the rules-base for the credit decisioning) has been seriously tighter since the GFC. If you’ve got undocumented earnings or declare yourself as self-employed, the line of credit will be a lot lower and the interest rate will be pretty punishing. All of which makes a total mockery of ZIRP / NIRP.
Central Banks and economists do really need to pay a visit to where the rest of us live in the real world now and again.
Interesting comment.
Negative interest rates seem to be a new form of wealth tax. Sounds ok to me if they won’t pay taxes any other way.
The problem is, they aren’t a tax. They simply extinguish money. Taxes, done properly, recycle excess savings and put them into more productive use.
All federal taxes extinguish money. The IRS simply makes the number in my checking account smaller. The Feds spend first, extinguish later.
Robert, a well-meaning guy like you doesn´t want negative rates because NIRP means destruction of capital. You don´t want that, why would you ?
Money (or currency in this case) needs to have a cost, right ?
I hope we agree in that ´money´ for free can´t get us out of this financial mess.
Imagine if the banks start storing gold as well as physical cash… that would get some people’s knickers in a twist, I suspect.
A word of advice to everyone: have some reasonable store of physical cash in a safe place… cf Lambert’s earlier post on the fragility of the power grid. Imagine not being able to use your credit card, ATM, or fancy-dancy smartphone app to pay for basic items when the power goes off for a few days.
I’d go further. In a show of positive action and an effective anti-fragility countermeasure, I’d manage, as far as practicable, your day-to-day affairs in cash.
Firstly, it will stop the sly moves to make cash obsolete and then decommission it on the grounds that “no-one uses cash anymore.”
Secondly, the systems in place as cash alternatives will remain in their not-exactly-robust form unless we vote with our feet (well, wallets) to send a message we’re not prepared to put our trust and wellbeing in such flakiness.
Ha ha Clive, you’re preaching to the choir there. I take out a bit of cash each week and try to pay most daily items in cash. As you probably know, studies show people spend less as well when paying in cash so it is financially prudent. Though these days in some cities waiters (e.g.) are surprised when one pays with notes instead of credit cards.
Long live financial anonymity!
Alas all cash transactions are difficult. I find it much easier to manage expenses over pay cycles with a credit card. I can also automate payments for many essential services like my children’s weekly summer camp expense.
I do use cash for small transactions and in group settings, but it’s largely impractical for the vast majority of my expenses because I simply do not have excessive reserves or it is massively inconvenient to do so.
Its a good way to go, even if its just random. I’ve always tried to mix and match using cards and cash so that the algorithms get confused about my purchasing patterns. Its a minuscule victory but oddly satisfying.
The problem is that in some circumstances its almost become criminalised to use cash – use it to buy an air ticket for example and see how quickly you find yourself come to the attention of various security services.
“Europe’s highways are not yet jammed with heavily guarded trucks transporting money to top-secret locations,”
Banks don’t have vaults any more? This could create quite a demand for ultra-high-value platinum coins, couldn’t it? Just stick a $billion in the CEO’s desk drawer.
The cheapest way for banks to hold reserves in cash is acctually to get people to hold it, first by panicking them that there is a threat of russian caused electricity blackout so people pull out cash and reduce bank reserves.
Funny how banks work people out to do their bid for them!!! By using “new” outside enemy. First DNC is using scare of Russia by lieing about the source of leaks and now banks are saying that russia, “that big bad wolf” will cause widespread blackout in USA. Why people are so dumb?
First economists have to figure out some things about real world, Yves also:”Entrepreneurs are not going to borrow to invest in new projects just because money is on sale.”
Where is money on sale? Has anyone seen that? What is interest that you pay?4? 5? 6?
Who gets negative interest rate? Only banks and states. Banks do not offer to private sector nothing bellow 4%. But economists still talk about “money on sale” Oooo stupidity. Economists deserve stupid people
Yves claims not to be an economist?
This is just the next effect of the 2008 bailout . It’s simple : the banks went bust, but the government pretended they didn’t so thereafter what possibility was there to discover the price of money ? Answer : None . When and how it will end no-one knows, but it won’t be pretty . Of that you can be sure.
the reason creditors change to using things like FICO was it was cheaper than having lots of employees (costs) doing that work, plus it could be easily computerized. plus it was more consistent, and too emotions and biases out of the equation. but in a way they are correct, they really dont have (any business demand) to speak of. we always here how companies have good profits. but their sales arent growing. so they have little need to expand and grow, which leads to little interest in any thing but cost containment (lets reduce costs, by automation or sending the work to a LCC).
employers only add workers if they cant do the work with current workers. which hasnt been the case since about 2000. and when they cant they have ‘cheaper’ options
Ironically, after a hundred years of accounting/computing progress, the safest forms of exchange
are still cash or checks.
Bring back Silvio Gissel’s stamp money – The Wörgl Experiment