The role of negative interest rates – becoming an ever more prevalent reality – in reviving hard hit economies
Deposits in Cyprus banks recorded an increase for the fifth consecutive month in July despite interest rates that are close to zero, hitting €49.6 billion according to Central Bank figures.
Yet this is not a time for putting spare money in the bank because it earns almost nothing. The Central Bank said 10 days ago the interest rate on deposits of households with a fixed maturity of a year were 0.07 per cent (€100,000 earns a paltry €70). The days when Cyprus banks were paying five and six per cent interest on deposits are but a distant memory.
The unthinkable of negative interest rates is the new normal in the EU, in which banks are now charging -0.5 per cent interest on deposits, or a form of liquidity fee, over a certain amount, although the amounts vary from country to country. In Cyprus, so far, only corporate customers are charged 0.5-0.6 per cent interest for having their money in the bank. Individuals are still exempted although they pay higher charges.
In fact, banks in Europe avoided passing on the negative interest rates to customers, when the European Central Bank (ECB) first imposed them in 2014 to boost slow economic growth in EU countries. The ECB placed a -0.1 per cent on the deposit facility rate in June 2014 and has subsequently increased it another four times, the most recent being in September 2019 when it was down to -0.5 per cent.
This monetary tool has become known as the negative interest rate policy (NIRP), and it is aimed at punishing banks for not giving loans, seen as necessary for stimulating growth. Banks that have excess liquidity, which is the case with Cyprus banks, have to park it with the ECB and pay 0.5 per cent interest on it. For one local bank the annual cost of this was in the region €15 million.
“We cannot give loans indiscriminately especially in an already overleveraged economy, so as to reduce the amount of money we have to keep with the ECB, which has a cost for us,” said a Cypriot banker. “We are being penalised, in a way, for having a sound loans policy,” he said.
In Europe, the negative interest rates were forced on the banks by the pandemic. Before the pandemic banks, fearing a public backlash, did not pass on the negative interest rates or similar liquidity fees to customers resorting instead to higher charges. Savings soared with the arrival of the pandemic as economies went into lockdown and people stayed at home. Banks were flooded with excess deposits, which meant they had to park more money at the ECB with its 0.5 per cent interest.
Since 2020, new customers of Germany’s biggest lenders, Deutsche Bank and Commerzbank were told they had to pay 0.5 per cent annual rate to keep large amounts of money with them. There had been an outcry about the NIRP in Germany, a country with a strong culture of saving money. The tabloid newspaper Bild dubbed the former ECB President Mario Draghi ‘Count Draghila’ for sucking people’s savings.
From July 1 of this year ABN AMRO in the Netherlands has been charging customers – businesses and private individuals – with a total balance of more than €150,000 in their bank accounts 0.5 per cent on the amount above this threshold. The bank also announced a number of new fees to discourage excessive use of cash, especially with regard to cash deposits, which involve additional costs.
It is not only eurozone countries that are introducing negative rates. Denmark was one of the first EU countries to introduce them, one bank – Jyske Bank A/S – charging negative interest on deposits over 750,000 kroner since before the pandemic, from December 2019. In May 2020 it lowered the exemption limit to 250,000 kroner, S&P Global said, and this “has since become the market standard, with other large banks such as Danske Bank A/S and Nordea Bank Abp adopting the same limit as of January 1, 2021.”
The Bank of England has still not introduced negative rates, but in March of this year it cut interest rates from 0.25 per cent to 0.1 per cent in an attempt to boost the economy ravaged by the pandemic. This was the lowest ever interest rate in the 325 year history of the Bank of England.
The jury is out on negative interest rates. According to a report by the EU’s Policy Department for Economic, Scientific and Quality of Life Policies, “firm level evidence suggests that NIRP had some positive impact on loan growth and investment in the euro area”. It added that it had “a modest impact on inflation and output.”
Economics professor at Harvard University Kenneth Rogoff has argued that only “effective deep negative interest rates can do the job” of reviving struggling economies. Meanwhile, the Bank for International Settlements, a think-tank of central banks, in a 2019 briefing warned that there was “something vaguely troubling when the unthinkable becomes routine.”
And the negative interest rates appear to have become routine, although they have an upside. The interest rate for buying a house was 2.21 per cent in July, the Central Bank of Cyprus said while that for consumer credit was 3.03 per cent. Have they ever been so low?