Economics of Liberty

Negative Interest Rates Being Considered By Fed Chair Janet Yellen

Federal Reserve May Use Negative Interest to Combat Recession

by Aya Katz

During a retreat in Jackson Hole, Wyoming, on August 26, 2016 Federal Reserve Chair Janet Yellen spoke about the current recession and the measures that may be necessary in order to combat the next one. Since the Federal Reserve has held the legal interest rate to practically zero for the past eight years in a vain attempt to restart the economy, the next recession will require even more drastic measures, analysts agree. When asked about the possibility of instituting negative interest, Yellen stated that it was not out of the question. However, the Federal Reserve has determined that unless the next recession is “unusually severe and persistent”, negative interest will not be required.

In December of  2008, the Federal Reserve cut its benchmark interest rate down to zero for the first time in history. When this was not enough to hold the recession at bay, the Fed promised to keep interest down to nothing for as long as it took. Since then, interest went up only once, to the current rate of below 1 percent. For years, people with savings have had no return for the money they kept in the bank, and this, together with inflation, already amounted to a negative return on investment even on Certificates of Deposit with penalties for early withdrawal.

The purpose of this monetary policy was to force people with savings to invest in more risky ventures  in order to restart the economy. But people who were risk averse kept their money in the bank, anyway, suffering losses, and waiting for the rates to rise. In addition to the practically non-existent benchmark interest rate, the Fed has also purchased government bonds and mortgage securities to the tune of trillions of dollars. Has there been an economic recovery due to these extreme measures? Not really. Economic expansion has slowed down permanently. The current rate of growth is at an annual rate of just under 1 percent, as measured for the first half of this year.

While Yellen downplayed the possibility of using a negative interest rate in the event of a new economic crisis, economists agree that it is not out of the question. Negative interest rates have already been instituted in Europe and Japan. Under such a lopsided system, lenders have to pay borrowers for taking their money. Instead of banks paying interest to depositors, they would charge us fees for keeping money in the bank.

What could possibly induce anyone to part with his money and pay a fee for the pleasure, too? Undoubtedly eliminating cash transactions would be part of the plan. If cash is outlawed, all transactions might need to flow through official channels like banks. Banks would then charge depositors fees for having money in the first place, and people would have to race against the clock to spend their money as soon as possible before it runs out due to bank fees in the form of interest compounded daily.

For a lot of people living near poverty, this is already the case. They pay fees to banks for the privilege of paying their bills.  But if negative interest becomes the norm in the United States for the middle class and the wealthy, also, it stands to reason that this would create a healthy black market in alternative currencies. Perhaps Yellen is aware of this, and this is why the Federal Reserve is still downplaying negative interest as the next new thing.

 

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