Wednesday, February 27, 2013

A truly disastrous proposal

I have heard some terrible ideas suggested during my years following and then involved in politics, and read about some truly disastrous policies adopted in various centuries including this one in my academic and professional career as an economist.

However, the horrendous idea of negative nominal interest rates which, according to several newspapers today, has been floated by the Deputy Governor of the Bank of  England, has to be up their with Gordon Brown's £5 billion a year raid on pension funds as one of the worst proposals ever contemplated.

The proposal only applies directly to money loaned by the banks to the Bank of England rather than to the savings of ordinary citizens, but if implemented it would have knock - on effects on ordinary savers which are unlikely to be positive.

It has been known for real interest rates - that is, the value of interest payments after deducting the impact of inflation - to go negative, indeed most real interest rates are negative at the moment. This has very unfortuate consequences, and is not sustainable in the long run, but the economy can survive it temporarily.

Nominal interest rates being negative - in other words you charge people who save with you instead of paying them - are an entirely different kettle of fish.

If ordinary savers were charged rather than paid for saving with the banks, it would become rational for them to put their savings into any forms other than bank deposits, including a stash of banknotes hidden under the floorboards. The impact on a modern economy of anything like this would be catastrophic.

What are banks going to do if the Bank of England charges them for deposits? If they have an atom of sense, put as little money in such deposits as possible.

But the impact is bound to be either that the banks put their money somewhere with higher risk, or lower interest rates, or most likely a combination which balances a net impact which is worse overall on both counts. Which in turn will almost certainly mean a lower return or higher risks for the people who save with the banks. Which means less incentive to save.

Even as an "extraordinary measure" I am horrified that such a proposal should have been so much as suggested.


Anonymous said...

I totally agree with your post. That has to go onto the short list for the Nobel prize for "dumbest idea"

Jim said...

dont know if my last comment got through as i sent it from the mobile, which is always a little hit and miss. Just really one that said I totally agree with your post here, and yeah its possibly one of the dumbest ideas in history. It ranks right up there with a shop having a "one for the price of two" sale.