Do negative interest-rates make you happy? And what about inflation?

Today I intend to take a broad sweep on two the major economic trends of our time. Firstly we have inflation which on the official CPI measure in the UK has been zero for two months in a row now. A major driving force in this has been the fall in the price of commodities particularly oil which have led to a particularly pleasant change in the “inflation nation” which is the UK. This has been worldwide trend with for example the US CPI in March some 0.1% lower than a year before mostly driven by an 18.3% fall in the energy index.

Secondly this has reinforced a trend which if I look back has been in force for the whole of my career which is the decline of interest-rates and yield. Back in the days when I was what is called green in America I asked a fund management group why they were buying a benchmark UK Gilt at 15% yield? It seemed illogical in that crisis. Well whilst that bond has matured there was a long-term  wisdom in such a move illustrated by the fact that an equivalent Gilt right now would yield 2%. Oh and over that period there was also an assumption that you would over longer periods always lose money if you valued Gilts in real terms due to inflation. That has been blown up by recent bond surges as even a relative underperformer like the UK Gilt market has blasted higher in terms of real returns. So like in many other ways in the credit crunch era  what was perceived as wisdom has been proved wrong. Indeed some bond markets have offered extraordinary returns as for example at the height of the Euro area crisis in Portugal early 2012 saw a ten-year bond yield peak over 18% compared to the 2% of now.

How they interrelate

The move to lower levels of consumer inflation has helped push bond yields even lower and given central banks an excuse to push official interest-rates not only to zero but below. It is not a fluke in my opinion that this has taken place in Europe nor that a particular outbreak is in the Nordic region but we got a classic explanation from the Riksbank of Sweden.

Low inflation over an even longer period of time increases the risk that long-term inflation expectations will fall and that the role of inflation as nominal anchor in price-setting and wage formation will weaken.

So we have two forces at play here. We start with a normal trend which is for interest-rates of all types to trend lower as inflation dips. However if we add this from the same Riksbank statement you see an all too common example of central banks giving this a further push as they felt this as well.

There are signs that inflation has bottomed out and is beginning to rise,

This is quite different as the -0.25% interest-rate and the QE purchases of government bonds are happening now when inflation is expected by them to pick-up. I will return to this crucial issue. But we see that like the European Central Bank and the Danish and Swiss central banks low inflation now is being used as an excuse for ever lower interest-rates and more expansionary monetary policy. But the monetary boost with its lags will operate some 18 months or so later when the economic environment is likely to be very different.

Is the fall in inflation all that it has been cracked up to be?

By this I mean what we might if we used the sort of language previously used by Adam Posen amongst others call “deflation nutters”. They and their media acolytes have presented falls in inflation and cheaper prices singing along to this from R.E.M.

It’s the end of the world as we know it
It’s the end of the world as we know it

However if we look looking into the detail of the recent inflation data demolishes their imagery of disinflation being like the Death Star in the film Star Wars. From the UK consumer inflation bulletin for March.

The CPI all goods index annual rate is -2.1%, down from -2.0% last month.


The CPI all services index annual rate is 2.4%, unchanged from last month.

As you can see there are two different inflation experiences at play here and I am reminded of Rudyard Kipling’s famous quote.

Oh, East is East and West is West, and never the twain shall meet,

Once we look deeper we see that what is by far the largest sector of the UK economy (approaching 80%) is behaving normally for the UK and seeing a stream of price rises. That gives us a clue to our future pattern as it would appear that more than a halving of the price of crude oil would be required for us to follow Taylor Swift and “Shake It Off. So now we are left with price falls in part of our economy which look very different to the official and media spinning of them. Indeed as I have regularly pointed out the ordinary consumer and worker responding to cheaper food and energy costs are much more likely to be represented by this from R.E.M.

Shiny happy people holding hands
Shiny happy people holding hands
Shiny happy people laughing

This is a major theme of our times where official bodies set out to mislead us and as so often George Orwell was on the case.

In a time of universal deceit – telling the truth is a revolutionary act.

What about inflation measurement?

The official view is that inflation is over-recorded. However when asked individuals give  a very different answer as for example in the UK the latest Bank of England survey finds that they think it has fallen but is still over 2%. The Bank of Japan survey got an answer of 5%!

One thing that is true is that modern “improved” measures do give lower answers. for example the UK CPI (0%) replaced the RPI (0.9%). So is deflation mania something we have done to ourselves by changing our view of reality?

A Major Problem

This comes from the fact that for there to be any real justification for interest-rates and yields to be where they are we need inflation not only to be low or even negative now but to be expected to be so in the future. A holder of a ten or twenty year bond may have a passing interest in inflation now but their real concern is for the future. So if we contend that actually baseline inflation for services has  fallen but is in fact still above the official target bond holders need goods prices to continue to fall. How likely is that?

In the decade preceding this we had goods price deflation from China but it has now moved on from that game. We have just had a sharp fall in the price of crude oil but that has ended for now such that 2015 has seen a rise in the price of Brent Crude by US $7 per barrel. Remember the “deflation nutters” require a continually falling oil price or something similar so even a stabilisation is not enough for them and a rise exposes them as swimming without shorts when the tide goes out to coin a famous phrase.

So if later this year we see inflation edge back into goods markets and services continue as before then 2016 will see us rise back to the 2% annual inflation target and perhaps above. That makes investing at negative yields somewhat problematic. How does negative yield go with positive inflation?

How are bond investors left?

Very exposed. In essence front-running asset purchases by central banks is the only game in town. This however puts economics at severe risk of failing the tests of the Lucas Critique and Goodhart’s Law. We will only know by how much we have failed them as events unfold but let me assess both sides of the coin.


Existing bond holders have had an extraordinary run and in general good luck to them. But in a world of Libor and FX fixing Pink was right to pose the question Who Knew? A genuine fear is that the 1% or rather the 0.01% have had easy pickings at our expense.


These seem rather likely going forwards except we have various problems. For a start are losses in asset markets allowed any more? Please will someone as this at the next press conference by a central bank? But we seem ever more unable to even countenance losses or interest-rate rises at all. Yesterday in a reply to a comment I pointed out Deutsche Banks view on the impact of interest rate rises in the past. But in there is a fear that we coped then but cannot now without yet another form of economic armageddon. If so we are locked into a crisis loop and a downwards spiral caused mainly by a fear of a downwards loop.


This has changed as everything in bond markets becomes about the now and present as expressed by what the central planners will do next. Whereas the future which they are supposed to give us a guide to?

Is this the era of the death of not only the long-term but anything other than the short-term?


Actually pretty much the whole of today’s article has been a comment piece so let me offer some lighter relief. I noticed this from the World Happiness Report which was published earlier.

The report identifies the countries with the highest levels of happiness:


So do negative interest-rates make us happier? It would make a good examination question I think! Still let us end in that vein with the song that central bankers would love to be on permanent repeat.

Because I’m happy
Clap along if you feel like a room without a roof
Because I’m happy
Clap along if you feel like happiness is the truth
Because I’m happy
Clap along if you know what happiness is to you
Because I’m happy
Clap along if you feel like that’s what you wanna do







13 thoughts on “Do negative interest-rates make you happy? And what about inflation?

  1. Hi Shaun,

    there are a lot of sites on the net where you can read financial doom and gloom, and today your post reads like one of them. However, given your impressive track record of presenting us with the real world facts, what I read to me comes from the heart of an informed observer – that is a frustration that there are no ‘markets’ anymore, just manipulated discount and charity establishments for the 99.n%. I do realise that you are not just observing and are getting involved, but given the scale of ‘the problem’ you cover above …….

    Thank you for the post, I shall read it again later when some of the anger has dissipated!

    • Hi DL and welcome to my corner of the web.

      The problem of manipulating markets is that they no longer give a guide to what is likely to happen next. For example the Germany ten-year bond at 0.16% indicates a severe recession and depression when the economy is having a good start to 2015. Even worse may be in store for places like Italy and Portugal which have been made to look safe investments by ECB action and QE bond purchases. But if as rumoured today Greece does default and stay in the Euro bond investments in both countries will suddenly look very different!

      Even worse in any slow down what happens next when so to speak the pedal is already so close to the metal, and we have to catch some of the cans which have been kicked forwards in the past?

  2. Disinflation is Armageddon to heavily indebted European Govts. which, to me, is one more reason to like it, and if low interest rates is the price we have to pay, then we’ll have to bear them.

    Low interest rates are not solely expansionary though, as it has been calculated that they have cost the US economy alone, somewhere over $300bn net (including that saved by debt servicing at those rates) in spending power.

    • Hi therrawbuzzin

      These days pretty much ever issue is complex. I welcome lower inflation and price falls as via improvements to real wages and input costs they boost economies. Sadly the official response of even lower interest-rates happens in a modern liquidity trap and as you highlight can make things worse and not better.

      The irony is that officialdom is afraid of what they (Euro area,ECB,IMF) created in Greece but their myopia about their own decisions makes them blind to that fact that it took quite a lot of stupidity to put Greece into an economic depression. Of course they never blame themselves! So the wrong questions lead to the wrong answers onr more time.

  3. Hi Shaun

    I believe that there are only two ways of getting out of the ever taller debt Ponzi that many countries find themselves in: default or inflation (and I include debt jubilees in the default category).

    In the past it has tended to be inflation – the “soft” default option, certainly in Western countries who want to try and maintain some semblance of prudence and fidelity, however misleading that is in fact – and I still think this is the preferred option of TPTB rather than an outright default which “outs” them as irresponsible and incompetent, both of which are true of course but cannot be admitted.

    I still think we will get QE cubed if all else fails in order to generate inflation to get us out of this. In the case of the UK this would trash the pound and put up inflation and so IRs would be forced up – forget forward guidance and any semblance of control by CBs and parsing word by Yellen or Carney. The only problem of course is that everyone else is doing the same but faut de mieux….

  4. How does negative yield go with positive inflation?


    For us who have pension schemes and savings that is

    With MIRP I am looking forwards to the first Bank to offer me a loan in which they pay me to take it out ……

    or a mortgage?

    isnt this the destruction of money ?

    I look forwards to the Banks being forced to follow the 3 laws of robotics and economists intergrating the laws of thermo-dynamics ……

    The question begs – Is there actually a market here anymore ? and did it die after 2008 ?


    • Hi Forbin

      The problem is that it would appear that the banks were fixing many markets before 2008 whilst the regulators looked the other way! As to negative interest-rates it was revealing that the Swiss increased their scope earlier this week to public pension funds.

      “Specifically, negative interest will now also apply to the sight deposit accounts held at the SNB by enterprises associated with the Confederation, including PUBLICA, the pension fund of the Confederation……..The account of the SNB
      pension fund will henceforth also be subject to negative interest.”

      All in it together? Or did they give themselves time to make adjustments?

      But the fundamental point is that many long-term contracts will struggle with negative interest-rates. Remember when Andy Z posted the pension illustrations with -3% per annum?

  5. Hi Shaun and thanks for helping me to understand what’s happening in these crazy times.
    As you have explained as recent changes drop out of the indexes it will show price inflation again and perhaps wage rises will be below or just keeping up with prices again.
    The fall in oil and food costs as you say are the drivers of a low CPI/RPI reading.
    However,there is inflation in so many items. If I buy or rent a property I’m paying more. My council tax has risen 2%,my ferry and train fares are both up.I pay more for my broadband,line rental,water and cable television if I choose to have ii .Postage has risen again and as you point out I pay more for services. Holidays are suffering from extra costs and shrinkflaton. Cycling and walking trips have no tour leaders and highlights have been eradicated.
    I was pleased to hear West Ham have cut the price of tickets.
    ” This is the world we live in”. QE,easy money,negative bond rates.
    The banks are not interested in taking money from their customers and the government not issuing NSI index linked bonds .Perhaps things are different this time?

    • Mentioning holidays just got me thinking, “Airlines are superfast in surcharging when fuel rates rise; how many are offering rebates now?”

  6. Very good Shaun; I think the whole thing would make a good exam question.
    10 years ago how many economics students would have accurately described the economic effects of holding UK bank rate at 0.5% for 6 years ? Not many, I guess. Most would have said it wouldn’t be possible. The economy would blow up.

    Nevertheless 6 years on here we are in the bankers’ version of Alice in Wonderland- or is it Hans Christian Anderson’s The Emporer’s New Clothes? Tricking the 99% into believing there is no alternative to the road to nowhere. – Cue Talking Heads.

    Not happy.

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