Denmark: Nationalbanken drives deposit rate deep into negative territory to defend the krone
January 26, 2015
On 22 January, the Bank of Denmark (Nationalbanken) cut its main deposit rate by 15 basis points from minus 0.20% to minus 0.35%. This followed a similar move just days earlier on 19 January when the deposit rate was reduced from minus 0.05% to minus 0.20%. These changes in monetary policy are intended to defend the local currency and keep it within a pre-established narrow band against the euro (EURO 1 = Krone 7.46038 +/- 2.25%). The Bank’s latest decisions to drive the deposit rate deep into negative territory were made as the long-standing currency peg comes under pressure due to increasing investor demand. The 22 January move came just a few hours after the ECB announced a massive stimulus package, boosting the relative appeal of the krone as a safe haven. The negative rates are designed to discourage capital inflows and keep the currency from appreciating further.
The Danish Central Bank implemented a negative deposit rate policy for the first time ever in June 2012 amid risks of a Euro area break-up. The Bank kept this rate below zero until April 2014 and then reintroduced the negative deposit rate again in September of last year. On 22 January, the Bank left the lending rate at 0.05% and the discount rate at 0.0%. The Bank is not expected to make any further cuts to the deposit rate soon, but its timely action in the past week reflects a commitment to the peg and it will almost certainly continue to intervene in the foreign exchange market in order to maintain it. The Bank typically purchases large amounts of foreign currency as its first line of defense when the krone is facing upward pressure.
The Swiss Central Bank’s surprise move on 16 January to lift the franc’s peg to the euro prompted some analysts to speculate that the Danish Central Bank might follow suit. However, most analysts are doubtful of this, pointing out that the peg has long been a foundation of the Danish economy. Danish monetary authorities can always continue to sell domestic currency to weaken the krone, and the ECB is also committed to defending the peg. Although Denmark is seen as a safe investment location, its reputation is nowhere near that of Switzerland so capital inflows are relatively smaller.
Author: Carl Kelly, Economist