“Tremendous damage” will be done to the global economy in the long run because of the affinity of many central banks towards zero or negative interest rates, warned analysts and added that central banks all around the world are going on a path toward cheaper interest rates which indicates an addiction to cheap money which is becoming a problem.
According to Yuwa Hedrick-Wong, a visiting scholar at the Lee Kuan Yew School of Public Policy, the trend of zero interest rates is “perverse” and can “poison” the business environment.
The margin of profits that the lending bank can earn is narrowed by low interest rates which hurt the profits for lenders. And when the rates of interest are taken into the negative category when the entire rate environment moves towards a negative interest rate, it essentially translates into the lending banks ending up making more payments to central banks so that their excess funds are kept safe with the central banks.
“I’m a firm believer that zero interest rate, or negative interest rates (is) actually doing tremendous damage to the economy over the long term. To begin with, zero interest rates poison the business corporate environment,” Hedrick-Wong said while speaking at the Forbes Global CEO Conference in Singapore.
United States President Donald Trump has been pushing the US Federal Reserve to constantly lower interest rates. He tweeted in September that the interest rates should be cut down to zero by the Fed and even into the negative rate zone if necessary. He also apparently praised Germany for taking the step of taking interest rates into the negative for its government bonds.
A persistently low interest rate environment has hurt European banks for quite some time. The European rates first hit zero in 2012 and later moved into the negative a couple of years later. In September, the European Central Bank pushed down the rates further below the zero mark. Countries like Denmark, Sweden and Japan have also done so.
“We have to reverse that process. Normalization of interest rates has to be the top priority in managing the economy going forward,” Hedrick-Wong said at a panel discussion. “The addiction to cheap money … that’s the problem, not the solution.”
Analysts also expect the US Fed to continue to reduce rates of interest because of fears of slowing down of global growth and concerns of trade tensions and no deal Brexit.
The US central bank could be cutting rates “a lot more”, warned Mark Zandi, chief economist at Moody’s Analytics. “If the trade war escalates, if Brexit becomes less graceful, then I think the Fed’s going to be cutting rates a lot more. In fact, at some point, talking about the zero lower bound,” he told the media. He was referring to the monetary policy tool of lowering short-term rates to zero with the aim of stabilizing the economy.
“We’re also talking about negative interest rates in the United States too. So if that happens, of course, that’s recession,” Zandi said.
(Adapted from CNBC.com)