Banking Crisis
EDITORIAL COMMENT: The Continuing Pain Of Negative Interest Rates

Official data issued a few days ago reminded bankers of the cost of negative interest rates, a feature of the post-2008 financial crisis world.
When bank economists talk about a return to interest rate
normality they may not yearn for the high single-digit or
double-digit percentage rates of old but they certainly will want
to see a move away from the bizarre era of negative rates.
When interest rates are negative, those who deposit money in
banks pay an additional amount to do so; they are actually
paying for the privilege of putting money into a bank
account above any sort of commercial “storage fee” that might
have operated in a complete free market. Negative rates operate
in Switzerland, Denmark and Japan; and with official rates in
other countries sometimes lower than headline inflation, real as
well as some nominal rates are negative in many other developed
nations.
Banks are hit in such an environment because individuals and
businesses obviously want to keep their cash intact as much as
possible and will be reluctant to entrust money to
banks. Banks’ margins are hit, and Swiss banks have
suffered, for example, adding to the pain caused by the exodus of
money caused by the demise of bank secrecy. It is a measure,
though, of how highly regarded Swiss banks are for stability that
as much money as is the case remains in these institutions.
Remember, one function of banks is to be storage facilities for
money; they charge money for safe keeping of that money (the idea
that banking should be “free” is economic nonsense, since banking
systems have to be paid for by someone), but negative rates are a
clear disincentive to deposit cash. Sure, central bank policy, in
this age of quantitative easing, is about encouraging people to
avoid the safety of cash and go into riskier areas such as
equities, with the idea of boosting economic growth. But for many
people who value liquidity, being forced to hold risky assets to
avoid erosion of value is a harsh trade-off.
And almost a decade on from the worst financial crisis since the
1930s, that this situation still exists is testing bankers’
patience.
This negative rate environment also explains why central banks
such as the European Central Bank and the Reserve Bank of India
have cracked down on high-value notes. On the face of it, such
crackdowns are designed to foil criminals, but there is another
factor that policymakers are less keen to stress: it is hard to
engage in “financial repression” via negative interest rates if
people shun the banking system and keep banknotes under the bed,
so to speak, or hoard gold and other substitutes for fiat
currency. One can imagine a situation, for example, where a
person buying goods or services in a Swiss store might get a
discount if he or she pays in banknotes rather than via a debit
or credit card. Authorities will no doubt try and stop this, and
the “war on cash” has been a feature of government policy for
some time (ostensibly to stop tax evasion/avoidance), but one
cannot help thinking that cash is frowned on by the
powers-that-be because it stymies monetary policy.
And the sheer cost of negative rates is cumulatively heavy, as
shown by figures a couple of days ago from the Swiss National
Bank. Figures show that Swiss banks were hit by SFr970
million, or $1.0 billion, in negative interest rate charges in
the first six months of this year (source: Reuters). As
striking as the absolute figure is the fact that the figure rose
40 per cent year-on-year. Under the current regime, the SNB
charges a 0.75 per cent fee on large deposits, a fee introduced
in 2015 in a bid to cut the value of the Swiss franc, seen as
overvalued and a headache for the country’s exporters.
With wealthy clients keeping over a fifth of their wealth
(source: Reuters) in cash, it is easy to see why
negative rates are a drag on banks’ earnings. And on top of the
regulatory and other forces squeezing banks in countries such as
Switzerland, it explains why consolidation continues. The SNB,
for example, noted recently that in 2016, 226 of the 261 banks in
Switzerland reported a profit, taking total profit to SFr11.8
billion, while the remaining 35 institutions recorded an
aggregate loss of SFr3.9 billion. At the turn of the century
there were well over 300 banks; that number has eroded
considerably.
One suspects the pain of negative rates in Switzerland and
elsewhere is not going to end very soon.