The anxiety of the small saver in a world of negative interest rates
A year ago I wrote a series of articles on monetary policy action by central banks in recent decades. I began by summarizing the state of affairs of a global economy in which central banks have acquired an enormous role so much so that their continuous interventions, first conventional and then "extraordinary", have become an everyday economic reality. While their role in managing the global financial crisis was key as they avoided a collapse in the liquidity of the system that would have undoubtedly aggravated the depression, their effectiveness in facilitating a return to growth, job creation, global deleveraging, financial sector risk reduction, sustainability of public finances and structural imbalances in their respective states is doubtful.
However, all this and more has been asked of the central banks, given the inaction of governments and international political-financial institutions. This has resulted in an economic environment of massive monetary expansions and successive reductions of nominal rates, entering an unknown Negative Zone, the consequences of which remain uncertain.
However, my trilogy of very technical articles did not address a key issue for every one of us: the impact that this panorama of interest rates of close to zero or negative has had and continues to have for their savings, which is hard-earned and quick to evaporate.
Pay to Deposit ... One Way or the Other
In the table above, you will see the current official interest rates of many advanced economies. In the European Union, the European Central Bank has kept these rates below 1% since 2012, reaching a historic low of 0% in March of this year. Other countries even have negative interest rates. When applied to bank deposits, a negative interest rate means that the depositor must pay the bank to keep their money.
A quick example will give you an idea of how this works: if the interest rate on deposits were -1%, for every €1,000 in your bank account, at the end of the year you would have €990. Similarly, when a bond yields negative returns, the holder does not recover the total amount invested at maturity. And this isn’t science fiction: it is already happening.
In our daily financial lives we are not yet suffering from this phenomenon directly, but indirectly through a significant adjustment in the yields of our financial products. Why is that? Central banks such as those of Europe and Japan have long penalized (with negative interests) national banks for having their money deposited so that they end up mobilizing via credit, thus expanding the economy. This policy has affected the margins of the traditional banking business. As a result, banks have tightened accounts and deposits, increasing the cost of their services, many of which had been free of charge.
Nevertheless, this phenomenon is not causing savers to massively withdraw money from accounts and deposits. In an environment with as much uncertainty as we are experiencing today, many people opt for the security of keeping their money in the bank even at the cost of certain losses. According to a report by Swedish financial firm Intrum Justitia, 69% of Europeans keep most of their savings in a bank account, 26% keep cash, 16% have investments in the stock market, 14% have investment funds, 8% invest in housing and another 8% in bonds. Put simply, people prefer to hoard money rather than invest it in the market. It's what economists call a liquidity trap.
On the other hand, investors seeking higher returns should put their money in higher risk products, which are more volatile and uncertain. But those are not usually the small savers. Does this mean that we must resign ourselves to the reality and let our money languish? Not necessarily…
Grandmother's Remedy: Keep Money Under the Mattress
Faced with an eventual panorama of negative interests, some readers might think that keeping their money at home could be a good alternative. At least, that cash does not lose its declared value. And it's true that cash has a zero interest rate. A thousand euros in bills today will still be a thousand euros in bills next week. Its nominal value remains unchanged. If you want to lower the interest rate on bank deposits below zero, customers could empty their accounts, keeping the bills and coins in their possession.
However, even now, even in these conditions, much of that money would remain in accounts, up to a certain limit, for one reason: it is not easy or cheap to safely keep large amounts of cash in our possession. One example: many Greek citizens hoarded large amounts of cash in their homes when their country went bankrupt, but many others did not. And don’t forget the famous case of the Saragossa convent nuns who had stored up €1.5 million... and had it stolen. Keep in mind that insurance covers only a small part of the cash you may have stored in your home.
Another alternative may be to rent a safe-deposit box, which is not cheap and is not always available to all customers, as a number of conditions must be met.
Having discarded grandmother's remedy, there are few options for one's savings in this world of zero or negative interest rates. Be cautious where you put your money and do not venture into unfamiliar financial grounds.
Sebastián Puig is an officer in the Intendance Corps of the Spanish Navy (El Cuerpo de la Intendencia de la Armada), which is in charge of, among other things, the planning and management of economic resources and advising on economic and financial matters in the Navy. He is a frequent writer on economic and financial issues having contributed to a number of publications.
Follow Sebastián on Twitter or you can visit his personal blog Esto Va De Lentejas.
This guest post* was originally posted in Spanish on Domestica Tu Economía: La zozobra del pequeño ahorrador en un mundo de intereses negativos
*Guest blog posts do not reflect the views of FocusEconomics.
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Date: April 11, 2017
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