The world has had an entire day to process the ECB's decision to impose negative interest rates on European banks. Any bank keeping deposits at the ECB is playing a losing game. Banks that have no choice must make up their losses with massively cheap lending or arbitrage games in other areas. I expect some banks to test the waters by charging their retail depositors negative interest on savings accounts, forcing them to spend and invest. That's how these policy errors play havoc with citizens' lives.
This move has severe philosophical implications. Negative interest rates magnify the time value of money by turning cash into a wasting asset. Combined with inflation, which has been a nonzero value for most of Europe's postwar history, negative rates accelerate the debasement of consumers' purchasing power. Europeans are now forced to immediately spend their earnings or invest them in assets whose risk profiles lie outside what would normally be their portfolio's efficient frontier. The ECB has just laid waste to modern portfolio theory.
The ECB has stepped into darkness and the world's financial markets are not registering an iota of care. US equity indexes are at record highs and the CBOE VIX volatility measure is comatose. Investors worldwide are lounging blissfully unaware of this decision's risks. Negative rates on bank reserves will force banks to lend cheaply. If they're borrowing short, they risk exposure to an ECB policy reversal or a surprise drop in the euro's value. The cheap lending will accelerate monetary velocity, which will massively magnify any rise in Europe's rock-bottom inflation rate. Europe has painted itself into a corner. It will make a mess on the way out.
This move has severe philosophical implications. Negative interest rates magnify the time value of money by turning cash into a wasting asset. Combined with inflation, which has been a nonzero value for most of Europe's postwar history, negative rates accelerate the debasement of consumers' purchasing power. Europeans are now forced to immediately spend their earnings or invest them in assets whose risk profiles lie outside what would normally be their portfolio's efficient frontier. The ECB has just laid waste to modern portfolio theory.
The ECB has stepped into darkness and the world's financial markets are not registering an iota of care. US equity indexes are at record highs and the CBOE VIX volatility measure is comatose. Investors worldwide are lounging blissfully unaware of this decision's risks. Negative rates on bank reserves will force banks to lend cheaply. If they're borrowing short, they risk exposure to an ECB policy reversal or a surprise drop in the euro's value. The cheap lending will accelerate monetary velocity, which will massively magnify any rise in Europe's rock-bottom inflation rate. Europe has painted itself into a corner. It will make a mess on the way out.
