How Negative Interest Rates Affect the Economy
Recently, I had an email query from a journalist about negative interest rates—asking in particular about how they would affect the economy. In answering, I was mindful of some of the criticisms that have been made of negative interest rates as a policy tool. I thought my readers might be interested in what I wrote, even though it didn’t make it into the newspaper article. Here it is:
Other countries have cut rates to as low as -.75%. From that experience, we know that going to negative rates as low as -.75% works just like any other rate cut in the Fed's target rate. Potential issues such as strains on bank profits or large-scale paper currency storage may arise at rates below -.75%, but not at mild negative rates.
Rate cuts work in every corner of the economy to encourage investment and consumption spending both by shifting the balance of power in favor of those most apt to spend and by giving an incentive to spend. In the case of negative rates, the carrot for those who spend is coupled with a stick for those sitting on pile of cash they resist putting to good use.
Other than banks that worry about things that haven't happened yet anywhere and those who have higher-rates-are-good ideologies or simply don't understand negative rates, complaints about negative interest rates are likely to come from those who don't want to spend.
Feel free to quote this.
My sentence
Rate cuts work in every corner of the economy to encourage investment and consumption spending both by shifting the balance of power in favor of those most apt to spend and by giving an incentive to spend.
is shorthand for what I say in these posts about the transmission mechanism for negative interest rates:
Many of the details I give about the experience with negative interest rates so far are taken from My new IMF Working Paper with Ruchir Agarwal: “Breaking Through the Zero Lower Bound” (pdf) (or on IMF website).