The era of negative interest rates in Europe is set to end this week when Switzerland’s central bankers leave Japan as the sole proponent of one of the most controversial economic experiments of recent times.
Surging inflation has led monetary policymakers to raise rates above zero and ditch a policy that — by paying borrowers and penalizing savers — turned the principles of finance on their head.
The Swiss National Bank, which for years used the policy to counter the threat of falling prices, is expected to raise its benchmark policy rate by as much as a percentage point from its current level of minus 0.25 per cent on Thursday after inflation climbed to a 30-year high in August.
Watched with fascination by economists and consumers when it was introduced by Sweden’s Riksbank in 2009, the policy ultimately fell short of hopes that it would quickly vanquish the threat of deflation and revive growth.
“It has not proven to be the holy grail that we were looking for,” said Katharina Utermöhl, senior European economist at German insurer Allianz.
While central bankers have stuck to claims that the topsy-turvy policy boosted loan growth, it is best known for producing some bizarre results in practice. For years, investors paid to lend money to governments such as Germany’s, while housebuyers earned interest from banks on their mortgages in some countries such as Denmark.
It also provoked fierce attacks in the eurozone after the European Central Bank implemented the policy in 2014, with savers voicing their frustration at banks charging them to hold deposits.
Critics of aggressive monetary easing claim it inflated asset bubbles and widened inequality. Monika Václavková, a student from the Czech Republic, harangued a group of European central bank bosses at last month’s Alpbach conference in Austria for cutting rates to “artificially low” levels. Václavková said the policy pushed up share and property prices and asked: “How do you think a person like me will be able to finance my first home in the next decade of my life?”
The Swiss decision will follow similar moves by Sweden, Denmark and the ECB, which ended its negative rates policy after eight years in July.
The ECB’s last rate cut to minus 0.5 per cent in 2019 proved so controversial in savings-obsessed Germany that its top-selling tabloid newspaper portrayed the central bank’s then chief Mario Draghi as a vampire sucking savers’ accounts dry.
“With the benefit of hindsight, it turned out to be a mistake, not only in theory but also in the internal politics of the ECB,” said Lorenzo Bini Smaghi, chair of French bank Société Générale, who left the ECB board before it cut rates below zero in 2014. The move caused bitter debates between officials, who argued over whether its side-effects outweighed the benefits. “The only significant effect of negative rates was to keep the euro lower, which in a deflationary world had limited impact in any case.”
Markus Brunnermeier, an economics professor at Princeton University, noted that while the policy was not “a massive success” for the ECB, it worked in the sense that it managed to convince everyone that below-zero rates were another weapon in central bankers’ armory . “It shows you can go negative,” he said.
Sweden’s Riksbank became the first to ditch the policy two years ago. This month, the Danish central bank followed suit to shore up the krone and avoid importing more inflation via higher import prices. Switzerland’s expected rate rise is also aimed at boosting the franc — in contrast to its attempts to weaken the currency when inflation was low.
Responding to the moves, a flurry of European banks have rushed to announce that they will no longer charge customers for holding their deposits. The total amount of global debt with interest rates below zero — meaning creditors pay to lend money — has shrunk nearly 90 per cent from its peak of $18.4tn in late 2020.
The one outlier is the Bank of Japan, which is unlikely to abandon sub-zero rates and a cap on bond yields at zero in the near future, despite higher prices and a fall in the yen. That is mainly because Japan’s headline inflation has remained low at 3 per cent, and there has been no pass-through from a rise in commodity prices to higher wages.
Japan’s central bank, however, stands at a crossroads with its governor Haruhiko Kuroda’s 10-year tenure ending in April next year. His successor could shift the BoJ’s stance on rates, but a recession in the US could also force it to maintain its monetary policy.
“The big question for next year is whether the BoJ will be able to shift towards normalization even under a new governor,” said Masamichi Adachi, chief economist at UBS in Tokyo.
The ECB has branded the experiment a success, estimating it caused an average of 0.7 per cent of extra bank lending per year than there would otherwise have been, based on surveys of lenders. The ECB also said the policy produced an extra 0.4-0.5 percentage points of economic growth and found little evidence that large sums of money shifted into cash, lying dormant in bank vaults and safes — a key criticism leveled at the policy.
However, German banks rushed to return a record €11bn of cash, mostly in €500 and €200 notes, to the ECB after its deposit rate rose to zero in July, suggesting the policy had caused some hoarding of hard currency.
While German lenders complained that the policy ate into their profits and was hard to pass on to clients, Ralph Wefer at German price comparison site Verivox said 455 of the 1,300 banks it analyzed had been charging retail depositors as well as business customers.
Brunnermeier pointed to the “psychological difficulty” the policy created for his fellow Germans: “When you are growing up in Germany, you are taught it is a virtue to save money and then suddenly you are punished for doing so and it seems to make no sense.”