Haseeb Awan 

Negative Interest Rate Policy (NIRP) – Friend or Foe?

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Whenever we borrow any amount, we expect to pay an interest on top of the principal amount. Recently it was increase after almost a decade however buzz word of negative interest rate have started to circulate in financial world. It’s not a new concept and currently exist in multiple EU countries.

Banks - Haseeb Awan

“Consider it as a Tax on your balances without even defining it to offset loss in revenue due to reduced economic activities”

NIRP is a desperate attempt to boost economy in tough times. As the name states, instead of giving the depositors profits, they are punished to hoard the money by returning them reduced amount. As an example if the interest rate is -.03%. In this case banks will start deducing .3% of the total amount from the deposits. Now consider if your cash is decreasing day by day, you are more inclined towards investing it in alternative asset such as real estate, gold etc. Interest rate operate on pure principle of supply and demand however NIRP is like a steroid for the economy.

NIRP is an incentive for individuals and institutes to circulate the money rather than hoarding it. During challenging times, fear leads to cutting down costs and saving as much resources as possible to overcome any unforeseen circumstances. This creates a ripple effect with conditions getting worse and recovery becomes more challenging in such stagnant society.

Here is excerpt from Mises in 1912

[This view of money] regards interest as a compensation of the temporary relinquishing of money in the broader sense — a view, indeed, of unsurpassable naiveté. Scientific critics have been perfectly justified in treating it with contempt; it is scarcely worth even cursory mention. But it is impossible to refrain from pointing out that these very views on the nature of interest holds an important place in popular opinion, and that they are continually being propounded afresh and recommended as a basis for measures of banking policy.

Cash register
NIRP is charged by central bank and in few cases retail banks take the hit themselves without affecting their end users. While negative interest rate does circulate the money, it drives up the valuations of possible investments such as real estate, gold etc. high creating a bubble. Recent hike in stock, tech and private companies’ valuations are by-product of decade old almost zero interest rate.

People take more risks due to availability of cheap debt & have led to economic crashes. People buying houses at high rate and in-experience people starting their businesses are all high-risk loans which are threat to the financial system. While it looks pretty lucrative to implement it, best practice is to leave it as it is, so businesses can at-least be certain about this aspect.

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