Negative interest-rates are on the march yet again

A feature of the modern era is that things which are permanent are described as “temporary”. This has been particularly true in the era of interest-rates as it is easy to forget now that the low interest-rates of 2009/10 were supposed to be so. The reality is that they went even lower and in more than a few places went negative which again was supposed to be temporary. But the list got longer along the lines of the famous Elvis Presley song.

We’re caught in a trap
I can’t walk out
Because I love you too much baby

I have written before that I think that there are two factors in this being passed onto the ordinary depositor. Firstly how negative interest-rates become and secondly how long they are negative for. The reason why there is any delay in the pass on to depositors and savers is that the banks are afraid they will withdraw their cash and hence break their business model apart.

Germany

On the 19th of last month we noted that some German banks were looking to spread the negativity net wider and according to Bloomberg some smaller ones have broken ranks.

After five years of negative rates imposed by the European Central Bank, German lenders are breaking the last taboo: Charging retail clients for their savings starting with very first euro in the their accounts.

While many banks have been passing on negative rates to retail clients for some time, they have typically only done so for deposits of 100,000 euros ($111,000) or more. That is changing, with one small lender close to Munich planning to impose a rate of minus 0.5% to all savings in certain new accounts. Another bank in the east of the country has introduced a similar policy and a third is considering an even higher charge.

This is the system we have some to expect where a small bank or two is used as a pathfinder to test the water. I wonder if there is some sort of arrangement here although this from Bloomberg is also true.

 While there are some exemptions under the policy, years of sub-par profitability have left especially smaller lenders with few options to offset the cost of the ECB’s charges.

The irony is not lost on me that policies brought in to protect “The Precious” are now damaging it and may yet destroy it. I also find it fascinating to whom Bloomberg went for an opinion as it is straight out of the European equivalent of Yes Prime Minister.

“For now, negative rates are probably a signal to new clients that a bank doesn’t need any additional deposits,” said Isabel Schnabel, a professor at the University of Bonn who was nominated by Germany to join the ECB’s Executive Board. “I would assume that banks are a lot more cautious with existing customers.”

Kylie Minogues “Spinning Around” should be playing in the background to that. Still Isabel should fit in well with the ECB Executive Board as we get some strong hints as to why she was nominated.

Who is it?

The banks are shown below.

Now Volksbank Raiffeisenbank Fuerstenfeldbruck, a regional bank close to Munich, is among the first brushing off such concerns. The bank says it will impose a negative rate of 0.5% on new clients who open a popular form of saving account……….Kreissparkasse Stendal, in the east of the country, has a similar policy for clients who have no other relationship with the bank. Both lenders levy the charges on new customers who open a type of savings account that allows for daily, unlimited withdrawals, a popular instrument among German savers. Existing customers are mostly exempt for now.

The way that this has been such a slow process shows that the banks are afraid of deposit flight or a type of run on the bank. So far we do not know when that would occur although we do know now that some versions of negative interest-rates do not cause it. As the plan below is for an extra -0.05% it seems unlikely to be the trigger.

Frankfurter Volksbank, one of the country’s largest cooperative lenders, is considering going even further and charging some new customers 0.55% for all their deposits, Frankfurter Allgemeine Zeitung reported, without saying where it got the information. The lender said in a statement it has not made any decisions yet.

Denmark

The Straits Times has picked up on an interview by the Governor of the central bank Lars Rhode and it is rather revealing.

In Denmark, where banks have lived with negative rates since 2012, it’s now clear that life below zero isn’t about to end any time soon. People need to understand that it’s “lower for longer”, Rohde said. And that will “definitely” have negative consequences for lenders, he said.

He also gave a speech yesterday and in it there was this.

Digitalisation and new legislation give more players access to the market for bank products. From the payments market we know that digital solutions have a tendency to create natural monopolies because it costs less to perform one extra transaction once the digital infrastructure is in
place.

That was ominous as banks already have problems with their business model and it got worse as he told them who he had in mind.

In recent years, we have seen tech giants, such as Apple and Amazon, enter the financial market. Experience from both the USA and China shows that these firms are extending their original core business to include payments and subsequently also financial services such as
lending.

Is he telling them they are obsolete and dinosaurs. Still he did manage some humour.

Well-functioning IT systems and a tight rein on costs will be key competitive parameters for banks in the coming years.

As the Straits Times puts it.

But years of negative rates, tougher regulatory requirements and, in some cases, out of date technology, have put some banks on the back foot.

Indeed this may put a chill down bankers spines.

According to a report in Borsen on Tuesday, Apple Pay has now established itself as a considerably more popular app among Danish shop owners than a local mobile payment solution offered by Nets A/S, which has so far dominated digital payments within the Nordic region.

So far Danish banks are resisting the trend towards negative interest-rates for all.

For now, lenders have drawn the line at 750,000 kroner (S$152,000), which is the threshold below which deposits are covered by guarantees.

Comment

There is a steady drip drip here and there is some other news which suggests to me that the ECB may be genuinely afraid. In its latest round of monetary easing there was also tiering of deposits for banks at the ECB itself which may reduce the costs there by a third. But in the last week or two there are signs of something more subtle regarding bank capital.

Enter Mr Enria new head of the SSM… And Unicredit’ s new business plan presented this morning. In which they make clear that Pillar 2 would be CET1 AT1 and T2. This means in practice :

A) a big CET1 relief for banks (80bps for Unicredit)

B) a massive need of new AT1/T2

( @jeuasommenulle )

He thinks that today’s announcement from Unicredit of Italy hints that the capital requirements for risk-weighted assets are being trimmed. There has been a change in who is in charge and more flexibility seems to be in the offing. This adds to the hint provided last week in the proposed banking merger between Unicaja and Liberbank as in the past it might have been stymied by a demand for more capital. Oh and SSM is Single Supervisory Mechanism.

This echoes partly because of this if we return to the Governor of the Danish central bank.

This creates an underlying need for consolidation, also within the financial sector.

So it is a complex picture and remember some policymakers at the ECB wanted to turn the screw even harder with a Deposit Rate of -0.6%.

 

 

The mad world of negative interest-rates is on the march

Yesterday as is his want the President of the United States Donald Trump focused attention on one of our credit crunch themes.

Just finished a very good & cordial meeting at the White House with Jay Powell of the Federal Reserve. Everything was discussed including interest rates, negative interest, low inflation, easing, Dollar strength & its effect on manufacturing, trade with China, E.U. & others, etc.

I guess he was at the 280 character limit so replaced negative interest-rates with just negative interest. In a way this is quite extraordinary as I recall debates in the earlier part of the credit crunch where people argued that it would be illegal for the US Federal Reserve to impose negative interest-rates. But the Donald does not seem bothered as we see him increasingly warm to a theme he established at the Economic Club of New York late last week.

“Remember we are actively competing with nations that openly cut interest rates so that many are now actually getting paid when they pay off their loan, known as negative interest. Who ever heard of such a thing?” He said. “Give me some of that. Give me some of that money. I want some of that money. Our Federal Reserve doesn’t let us do it.” ( Reuters )

That day the Chair of the US Federal Reserve Jerome Powell rejected the concept according to CNBC.

He also rejected the idea that the Fed might one day consider negative interest rates like those in place across Europe.

The problem is that over the past year the 3 interest-rate cuts look much more driven by Trump than Powell.

Of course, there are contradictions.Why does the “best economy ever” need negative interest-rates for example? Or why a stock market which keeps hitting all-time highs needs them? But the subject keeps returning as we note yesterday’s words from the President of the Cleveland Fed.

Asked her view on negative interest rates, Mester told the audience that Europe’s use of them “is perhaps working better than I might have anticipated” but added she is not supportive of such an approach in the United States should there be a downturn.

Why say “working better” then reject the idea?  We have seen that path before.

The Euro area

As to working better then a deposit-rate of -0.5% and of course many bond yields in negative territory has seen the annual rate of economic growth fall to 1.1%. Also with the last two quarterly growth readings being only 0.2% it looks set to fall further.

So the idea of an economic boost being provided by them is struggling and relying on the counterfactual. But the catch is that such arguments are mostly made by those who think that the last interest-rate cut of 0.1% made any material difference. After all the previous interest-rate cuts that is simply amazing. Actually the moves will have different impacts across the Euro area as this from an ECB working paper points out.

A striking feature of the credit market in the euro area is the very large heterogeneity across countries in the granting of fixed versus adjustable rate mortgages.
FRMs are dominant in Belgium, France, Germany and the Netherlands, while ARMs are prevailing in Austria, Greece, Italy, Portugal and Spain (ECB, 2009; Campbell,
2012)

Actually I would be looking for data from 2019 rather than 2009 but we do get some sort of idea.

Businesses and Savers in Germany are being affected

We have got another signal of the spread of the impact of negative interest-rates .From the Irish Times.

The Bundesbank surveyed 220 lenders at the end of September – two weeks after the ECB’s cut its deposit rate from minus 0.4 to a record low of minus 0.5 per cent. In response 58 per cent of the banks said they were levying negative rates on some corporate deposits, and 23 per cent said they were doing the same for retail depositors.

There was also a strong hint that legality is an issue in this area.

“This is more difficult in the private bank business than in corporate or institutional deposits, and we don’t see an ability to adjust legal terms and conditions of our accounts on a broad-based basis,” said Mr von Moltke, adding that Deutsche was instead approaching retail clients with large deposits on an individual basis.

So perhaps more than a few accounts have legal barriers to the imposition of negative interest-rates. That idea gets some more support here.

Stephan Engels, Commerzbank’s chief financial officer, said this month that Germany’s second largest listed lender had started to approach wealthy retail customers holding deposits of more than €1 million.

Japan

The Bank of Japan has dipped its toe in the water but has always seemed nervous about doing anymore. This has been illustrated overnight.

“There is plenty of scope to deepen negative rates from the current -0.1%,” Kuroda told a semi-annual parliament testimony on monetary policy. “But I’ve never said there are no limits to how much we can deepen negative rates, or that we have unlimited means to ease policy,” he said. ( Reuters )

This is really odd because Japan took its time imposing negative interest-rates as we had seen 2 lost decades by January 2016 but it has then remained at -0.1% or the minimum amount. Mind you there is much that is crazy about Bank of Japan policy as this next bit highlights.

Kuroda also said there was still enough Japanese government bonds (JGB) left in the market for the BOJ to buy, playing down concerns its huge purchases have drained market liquidity.

After years of heavy purchases to flood markets with cash, the BOJ now owns nearly half of the JGB market.

In some ways that fact that a monetary policy activist like Governor Kuroda has not cut below -0.1% is the most revealing thing of all about negative interest-rates.

Switzerland

The Swiss found themselves players in this game when the Swiss Franc soared and they tried to control it. Now they find themselves with a central bank that combines the role of being a hedge fund due to its large overseas equity investments and has a negative interest-rate of -0.75%.

Nearly five years after the fateful day when the SNB stopped capping the Swiss Franc we get ever more deja vu from its assessments.

The situation on the foreign exchange market is still fragile, and the Swiss franc has appreciated in trade-weighted terms. It remains highly valued.

Comment

I have consistently argued that the situation regarding negative interest-rates has two factors. The first is how deep they go? The second is how long they last? I have pointed out that the latter seems to be getting ever longer and may be heading along the lines of “Too Infinity! And Beyond!”. It seems that the Swiss National Bank now agrees with me. The emphasis is mine.

This adjustment to the calculation basis takes account of the fact that the low interest rate environment around the world has recently become more entrenched and could persist for some time yet.

We have seen another signal of that recently because the main priority of the central banks is of course the precious and we see move after move to exempt the banks as far as possible from negative interest-rates. The ECB for example has introduced tiering to bring it into line with the Swiss and the Japanese although the Swiss moved again in September.

The SNB is adjusting the basis for calculating negative interest as follows. Negative interest will continue to be charged on the portion of banks’ sight deposits which exceeds a certain exemption threshold. However, this exemption threshold will now be updated monthly and
thereby reflect developments in banks’ balance sheets over time.

If only the real economy got the same consideration and courtesy. That is the crux of the matter here because so far no-one has actually exited the black hole which is negative interest-rates. The Riksbank of Sweden says that it will next month but this would be a really odd time to raise interest-rates. Also I note that the Danish central bank has its worries about pension funds if interest-rates rise.

A scenario in which interest rates go up
by 1 percentage point over a couple of days is not
implausible. Therefore, pension companies should
be prepared to manage margin requirements at
all times. If the sector is unable to obtain adequate
access to liquidity, it may be necessary to reduce the
use of derivatives.

Personally I am more bothered about the pension funds which have invested in bonds with negative yields.After all, what could go wrong?

 

 

In the future will all mortgage rates be negative?

Today I thought that I would look at some real world implications of the surge in bond markets which has led to lower and in more than a few cases ( Germany and Switzerland especially) negative bond yields. The first is that government’s can borrow very cheaply and in the case of the two countries I have mention are in fact being paid to borrow at any maturity you care to choose. This gets little publicity because government’s prefer to take the credit themselves. My country the UK is an extreme case of this as the various “think tanks” do all sorts of analysis of spending plans whilst completely ignoring this basic fact as if a media D-Notice has been issued. I would say that “think tank” is an oxymoron except in this instance I think you can take out the oxy bit.

Negative Mortgage Rates

Denmark

Back on the 29th of May we were already on the case.

Interest rates on Danish mortgage loans have fallen since 2008. From an average interest rate including administration fee of close to 6 per cent in 2008 to under 2.2 per cent in August 2018. This is the lowest level since the beginning of the statistics in 2003.

Back then we also observed this.

For one-year adjustable-rate mortgage bonds, Nykredit’s refinancing auctions resulted in a negative rate of 0.23%. The three-year rate was minus 0.28%, while the five-year rate was minus 0.04%.

As you can see at the wholesale or institutional level interest-rates had gone negative and the central bank the Nationalbanken had seen reductions in the fees added to these as well.

That was then but let us pick up the pace and move forwards to the 2nd of this month. Here is The Local in Denmark.

Mortgage provider Realkredit Danmark will next week start offering Denmark’s cheapest ever 30-year mortgage, with an interest rate of just 0.5 percent per year. The fixed-rate 30-year loan is the lowest interest mortgage ever seen in Denmark, and is likely to be matched by Realkredit competitor Nordea Kredit.

That implied negative mortgage rates at shorter maturities although we already knew that but this week things have taken a further step forwards or perhaps I should write backwards. From Bloomberg.

In the world’s biggest covered-bond market, a Danish bank says it’s now ready to sell 10-year mortgage-backed notes at a negative coupon for the first time.

It’s the latest record to be set in a world that’s being dragged down by ever lower interest rates. In Denmark, where Jyske Bank will offer 10-year mortgage bonds at a fixed rate of minus 0.5 per cent, average Danes will borrow at rates far lower than those at which the US government can sell its debt.

Since then things have taken a further step as Nordea has started offering some mortgage bonds for twenty years at 0%, So we have nice even 0.5% changes every ten years.

If we look at Finance Denmark it tells us that variable rate mortgage bonds are at -0.67% in Danish Kroner and -0.83% in Euro in the 31st week of this year with a noticeable 0.2% drop in Euro rates.

This is impacting on business as we see that the latest three months have seen over 30,000 mortgages a month taken out peaking at 39,668 in June. This compares to 16/17k over the same 3 months last year so quite a surge. If we switch to lending volumes then the Danish mortgage banks lent more than double ( 212 billion Kroner) in the second quarter of this year.

Also as the Copenhagen Post points out whilst it may seem that negative mortgages are easy to get banks will behave like banks.

Banks are set to make money from the mortgage loan restructuring.

“We are in the process of a huge conversion wave, and the banks are of course also very interested in talking about that. Because they make good money every time a new loan is taken up,” explained Morten Bruun Pedersen, a senior economist at the Consumer Council, to TV2.

These days banks make money from fees and charges as there is no net interest income and on that subject we have a curiousity. On the one hand Danes are behaving rationally by switching to cheaper mortgages on the other the data from the Nationalbanken is from earlier this year but they have around 900 billion Kroner on deposit at 0% which is less rational and will have central banking Ivory Towers blowing out plenty of steam.

So whilst there are some negative mortgage rates the fees added are doing their best to get them into positive territory. The Nationalbanken highlights this here.

In 2018, Danish households paid an average interest rate of 1.20 per cent on their mortgage debt along with 0.96 per cent in administration fees.

I guess someone has to pay the banks money laundering fines

Just for research purposes I looked at borrowing 2 million Kroner on the Danske bank website and after 30 years I would have repaid 2.2 million so not much extra but it was positive.

Portugal

It has not been reported on much but there was an outbreak of negative mortgage rates in Portugal as this from Portugal on the move highlights.

The new law forces banks to reflect Euribor negative interest in home loan contracts. It was supported by all political parties in the country except the centre-right PSD which abstained.

The bill, which the banks and the Bank of Portugal tried to block, applies to all mortgages index-linked to Euribor rates.

Above all the law will benefit those with Euribor mortgages with very low spreads (commercial margins of banks), at around 0.30%.

The law allows for Euribor rates, currently in the negative across all terms, should be reflected in contracts, even after the cancelled spread, which implies a capital payout.

Typical that the banks would try to evade their obligations and notable that the Bank of Portugal could not look beyond “The Precious”

UK

When the credit crunch hit the UK saw a brief burst of negative mortgage rates. This was caused by the market being very competitive and mortgages being offered below Bank Rate and so much so that when it plunged to 0.5% some went negative. The most famous was Cheltenham and Gloucester and I forget now if it went to -0.02% or -0.04%.

This had wider consequences than you might think as banking systems were unable to cope and repaid capital rather than recording a negative monthly repayment. That was echoed more recently in the saga in Portugal above. A consequence of this was that the Bank of England went white faced with terror muttering “The Precious! The Precious!” and did not cut below an interest-rate of 0.5%. This was the rationale behind Governor Carney;s later statements that the “lower bound” was 0.5% in the UK.

If you are wondering how he later cut to 0.25% please do not forget that the banks received an around £126 billion sweetener called the Term Funding Scheme.

Comment

So we have seen that there are negative mortgage rates to be found and that we can as a strategy expect more of them. After all it was only yesterday we saw 3 central banks cut interest-rates and I expect plenty of others to follow. A reduction in the ECB Deposit Rate (-0.4%) will put pressure on the Danish CD rate ( -0.65%) and the band will strike up again.

In terms of tactics though maybe things will ebb away for a bit as this from Pimco highlights.

It is no longer absurd to think that the nominal yield on U.S. Treasury securities could go negative……..What was once viewed as a short-term aberration – that creditors are paying debtors for taking their money – has already become commonplace in developed markets outside of the U.S. Whenever the world economy next goes into hibernation, U.S. Treasuries – which many investors view as the ultimate “safe haven” apart from gold – may be no exception to the negative yield phenomenon. And if trade tensions keep escalating, bond markets may move in that direction faster than many investors think.

The first thought is, what took you so long? After all we have been there for years now. But you see Pimco has developed quite a track record. It described UK Gilts as being “on a bed of nitro-glycerine” which was followed by one of the strongest bull markets in history. Also what happened to US bond yields surging to 4%?

Maybe they are operating the “Muppet” strategy so beloved of Goldman Sachs which is to say such things so they can trade in the opposite direction with those who listen.

As to the question posed in my headline it is indeed one version of our future and the one we are currently on course for.

 

 

 

What are the prospects for mortgage interest-rates?

Today brings us two sides of the same argument. What I mean by that is that many are affected by what mortgage-rates do. The most obvious implication is for those with a mortgage or those with plans to buy using one. The follow-on effects may even effect more than a few who rent via the way they affect the calculations and profits of those who buy with a mortgage to then let out. On the other side of the coin are central bankers who are seldom happier than observing house price rises which are usually excluded from inflation calculations and hence can be claimed as boosting economic growth and wealth. In the credit crunch era we have seen central banks reduce mortgage-rates to boost house prices in a variety of ways. Firstly there was a wave of large official interest-rate cuts, then QE style bond buying to have another go and then what has become called credit easing which guess what? It reduced mortgage-rates again.

Denmark

This has hit the financial newswires over the past week and the reason for this is as follows. From Bloomberg.

“During this week’s auctions, there were three times when I had to stand back a little from the screen and raise my eyebrows somewhat,” said Jeppe Borre, who analyzes the mortgage-bond market from a unit of the Nykredit group that dominates Denmark’s $450 billion home-loan industry.

For one-year adjustable-rate mortgage bonds, Nykredit’s refinancing auctions resulted in a negative rate of 0.23%. The three-year rate was minus 0.28%, while the five-year rate was minus 0.04%.

So at the institutional level there is a wide range where the interest-rate is negative. Of course the banks will be looking to add fees to this but it does pose a question? It seems to have also been on the mind of the central bank as the central bank Nationalbanken published this yesterday.

The average administration fee on the Danes’ mortgage loans is decreasing because the Danes choose more secure loan types for their financing – especially fixed-rate loans and loans with instalments. The administration fee is now, on average, 0.87 per cent, which corresponds to a monthly payment before tax of kr. 723 per kr. million borrowed.

So we see that heading forwards a lower fee will be added to the interest which will also be heading lower. For perspective the Nationalbanken was in reflective mood last August.

Interest rates on Danish mortgage loans have fallen since 2008. From an average interest rate including administration fee of close to 6 per cent in 2008 to under 2.2 per cent in August 2018. This is the lowest level since the beginning of the statistics in 2003.

Average interest-rates take their time to change so let us move to new business. According to its database we have seen mortgage-rates as low as 0.75% with fixed-rates in the 5 to 10 year range being as low as 1.17%. So we await the monthly data for May expecting new lows for these numbers.

For those wondering why Denmark might be taking up the role of a crash test dummy there is this explanation.

Denmark has had negative rates longer than any other country. The central bank in Copenhagen first pushed its main rate below zero in the middle of 2012, in an effort to defend the krone’s peg to the euro. The ultra-low rate environment has dragged down the entire Danish yield curve, with households in the country paying as little as 1% to borrow for 30 years.

The explanation starts well enough and regular readers will recall that I have expected the impact of official negative interest-rates ( the certificate of deposit rate is currently -0.65%) to build over time. So far so good for that theory. However as the Nationalbanken tells us that the over ten-year mortgage-rate was 2.2% in April I would suggest the Bloomberg journalist sits down and enjoys some Graham Parker and the Rumour.

Don’t get excited Don’t get excited Don’t get excited see
Don’t get excited Don’t get excited Don’t get excited Don’t get excited
Baby listen without thinking

Turning Japanese?

This theme just runs and runs and we can stay with Graham Parker as we do some Discovering Japan. Here is rethinktokyo.com from January.

Japan currently offers historically low interest rates, with rates for 10-year fixed mortgages generally available under 1% for the initial set period. Variable loans are currently even lower; for example, MUFJ bank offers 0.65% for a floating loan.

Actually fair play to them for having a sense of humour.

 The rate is not fixed and could go up

But the Japanese themselves do not believe that.

In 2018, more than half of mortgages taken out were variable to take advantage of those rates.

That is interesting as for example in the UK people have shifted in the credit crunch era towards fixed-rate mortgages and now we see Mrs. Watanabe heading the other way.

As an aside the fees paid when you buy in Japan are not low.

We need to add approximately 9% for taxes and the brokerage fee.

The Trend

This can be found in bond markets and as ever the leader of the pack in several ways is the US one.  As I type this the Treasury Market is continuing its rally and the ten-year yield has fallen to 2.23%. This means that Mr and Ms Market are putting some pressure on the US Federal Reserve which has responded marginally with the rate it pays banks or IOER which fell from 2.4% to 2.35% at the beginning of this month. Let us move to Mortgage Rates which tells us this.

which means we’re still operating on the edge of the lowest levels in more than a year.

Actually they should be lower but are being held back by this.

Notably, there has been increasing chatter regarding the re-privatization of Fannie Mae and Freddie Mac.  If that happens, the aforementioned government guarantee would no longer be in place.  This alone could explain some of the drift seen in mortgages vs Treasuries lately.

So if that chatter fades we will see US mortgage rates head lower following the bond market.

If we move to Europe we see that what might be called negativity is back. Or the ten-year yield of Germany is at -0.16% and that if we take a broad sweep is part of the move which has pulled the rates on Danish mortgage bonds lower. If we look at the German situation we see that things have been on the move so far this year because of we take the first mortgage on the Bundesbank list we see it fell from 1.86% in January to 1.74% in March.

Comment

The trend in bond markets has been upwards for a while which means that they will be applying pressure for fixed-rate mortgages in particular will be singing along with Status Quo.

Down down deeper and down
Down down deeper and down
Get down deeper and down

There are some factors holding this back such as the Fannie Mae situation in the US but we seem to be entering a new phase of the cuts. Regular readers will not be falling off their chairs at this point as we have been expecting this as we wonder what historians of these times will  regard as normal?

This poses a problem for the Forward Guidance provided by many central banks and let me start with that of the Bank of England and the emphasis is mine.

The Committee continues to judge that, were the economy to develop broadly in line with its Inflation Report projections, an ongoing tightening of monetary policy over the forecast period, at a gradual pace and to a limited extent, would be appropriate to return inflation sustainably to the 2% target at a conventional horizon.

So guidance towards higher interest-rates. But the markets do not believe this as illustrated by the five-year UK Gilt yield. I have chosen this as it is the one which most influences fixed-rate mortgages. But at 0.66% it is below the current Bank Rate of 0.75% and suggesting a cut rather than a rise and that will feed into mortgage-rates in the UK if it persists.

Still if The Toronto Star is any guide Governor Carney’s mind may be on other matters.

With a possible Liberal defeat this fall in mind, some insiders are already strategizing a path to the party leadership for former Bank of Canada governor Mark Carney.

Can negative interest-rates prevent a recession in Denmark?

One of the features of the response to the credit crunch was a general reduction in interest-rates. This was followed later by Quantitative Easing and around the Euro area in particular by further reductions in interest-rates. This was evidenced by Denmark where its Nationalbanken cut its current account rate to 0% in June 2012 where it remains. Even more so by its certificate of deposit or CD rate which moved into negative territory in July 2012 at -0.2% and is now -0.65% having been as low as -0.75%. So after raising interest-rates almost unbelievably as the credit crunch hit the Nationalbanken became an enthusiastic cutter of them and before we get to the impact on the Danish economy we need to remind ourselves that there is an external or foreign restraint at play here.

Denmark maintains a fixed-exchange-rate policy vis-à-vis the euro area and participates in the European Exchange Rate Mechanism, ERM 2, at a central rate of 746.038 kroner per 100 euro with a fluctuation band of +/- 2.25 per cent.

So it is no great surprise to note that Danish interest-rates were in effect sucked lower by the impact of Mario Draghi’s “Whatever it takes ( to save the Euro) speech and policies. Of course all interest-rate policies have external and internal economic implications but when you have such an explicit one the external takes over at times of stress. For choice I would call it a pegged currency rather than fixed as whilst it is unlikely it could more easily change the rate than it could leave the “irreversible” Euro if it had joined it. Anyway here is how the Nationalbanken  reviewed events back in the summer of 2012.

For the first time in its nearly 200-year history, one of Danmarks Nationalbank’s interest rates is negative. Negative monetary-policy interest rates are also unique in an international perspective.

They were not lonely for long!

The economic situation

At the end of last month the Nationalbanken told us this.

The Danish economy is in a boom where the
growth outlook is slightly better than the potential……. There is consensus that labour market
pressures will intensify.

We get the picture although the discussion with the Danish Economic Council did have something from the left field.

In addition, the calculation assumes an increase in the retirement age by 12 years relative to today.

Really? It seems for best that they think that the public finances are in good shape. Although I note that the enthusiasm for easy monetary policy does not spread to fiscal policy.

This should not be perceived as scope for fiscal policy accommodation within a foreseeable time horizon. The cyclical position must be taken into account.

Returning to the economic situation we were told this back in March.

The upswing continued in the 2nd half of 2017 and the Danish economy has now entered a boom phase. Labour market pressures have increased, but so far the upswing has been balanced.

That is Danmarks Nationalbank’s conclusion in a new projection of the Danish economy, in which growth in the gross domestic product, GDP, is expected to be 1.9 per cent this year, 1.8 per cent next year and 1.7 per cent in 2020.

We need a caveat for those who think that these days we need recorded growth of 2%  per annum just to stand still but Nationalbanken Governor Lars Rhode is not one of them.

The Danish economy is booming

In fact the outlook is so good that the brakes may need to be applied although it is revealing that Governor Rhode seems to have forgotten that the task below is usually considered to be the role of monetary policy because it is more flexible.

So the government should be prepared to introduce preventive fiscal tightening at short notice if there are signs that the economy is overheating.

The boom

We get a new perspective on the concept of boom if we note that at current prices the GDP of Denmark was 537.9 billion Danish Krone in the first quarter of 2017 and 537.3 billion in the first quarter of this year. This was driven by this.

Gross domestic product fell 0.6 percent in the third quarter from the previous three-month period, Statistics Denmark said on Thursday ( Bloomberg).

In fact we know that on the measure looked at above it fell by 0.8% and unknown to Bloomberg back then it had also fallen by over 1% in the second quarter so there had in fact been a recession in the boom. How can this be? Well there was an element of the Irish problem.

The reason is primarily a large payment of a Danish owned patent which is temporarily accounted for as service exports in Q1 2017. That leaves Q1 GDP at a massive 2.3% q/q growth and Q2 at -1.2%. Q3 turned out even worse than previously suggested at -0.8% but it is largely attributed to negative stock building and the above mentioned sudden stop in car sales. ( Danske Bank ).

This meant that if you looked at 2017 as a calendar year things looked like a boom. From the Financial Times.

Gross domestic product increased 2.1 per cent for the year overall, the country’s best performance since 2006. Jan Størup Nielsen, chief analyst at Nordea, said the country is now “running at full capacity” for the first time in 10 years, and said the solid performance “will likely continue in 2018”.

Yet if you look from the latest data then the economy is smaller than a year before! If we move to the cause here is the likely factor.

However, most of Denmark’s most valuable patents are held by pharmaceuticals companies and several economists pointed to a payment made to Danish group Forward Pharma last January. Nasdaq-listed Forward received a $1.25bn payment from US biotech Biogen as part of a dispute over patents for multiple sclerosis treatments. Forward chief executive Claus Bo Svendsen said the data showed “a nice time-wise correlation with our deal with Biogen”.

House Prices

From the Nationalbanken.

As a result of the gradual shift from bank loans to
mortgage loans in recent years, mortgage lending
continues to drive lending growth.

They will need to drive it a bit faster as at the end of 2017 there was a dip in house prices after a spell of rises which in the light of the negative interest-rates era you may not be surprised to learn began in 2012.  The 85.7 of the index was replaced by 111 in the autumn of last year but it ended the year at 109.1 . Like many capital cities Copenhagen is now under much cooler pressures than were seen before.

Comment

Let me open with this from Bloomberg yesterday.

In the world-record holder of negative rates, there’s been another eye-catching development.

Danes are richer than ever before, according to central bank data on savings and home equity. But they’re spending less, in relative terms. The gap between private consumption and household wealth is the biggest it’s been in three decades.

Those familiar with my analysis will not be surprised unlike those Bloomberg go on to quote. This is because there is a large group of losers as those who do not own property face inflation which does not show up in the Consumer Price Index which is at 102.2 compared to 100 in 2015. Whereas the winners are really only those who have sold and made a profit or more implicitly those who have used higher prices to borrow more.

So wealth is not what is used to be as we get another reminder that GDP isn’t either.

Though private consumption did inch up 0.9 percent in the first quarter, it wasn’t enough to prevent the economy from shrinking on an annual basis.  Danske says GDP growth this year probably won’t exceed 2 percent.

Furthermore will Denmark be influenced by the slowing in the UK and Euro area and with interest-rates already negative how would it respond in such a scenario?

 

 

Of Denmark its banks and negative interest-rates

The situation regarding negative interest-rates mostly acquires attention via the Euro or the Yen. If the media moves beyond that it then looks at Switzerland and maybe Sweden. But there is an outbreak of negative interest-rates in the Nordic countries if we note that we have already covered Sweden, Finland is in the Euro and the often ignored Denmark has this.

Effective from 8 January 2016, Danmarks Nationalbank’s ( DNB ) interest rate on certificates of deposit is increased by 0.10 percentage point to -0.65 per cent.

Actually Denmark is just about to reach five years of negative interest-rates as it was in July of 2012 that the certificate of deposit rate was cut to -0.2% although it has not quite been continuous as it there were a few months that it rose to the apparently giddy heights of 0.05%.

In case you are wondering why Denmark has done this then there are two possible answers. Geography offers one as we note that proximity to the Euro area is associated with ever lower and indeed negative interest-rates. Actually due to its exchange rate policy Denmark is just about as near to being in the Euro as it could be without actually being so.

Denmark maintains a fixed-exchange-rate policy vis-à-vis the euro area and participates in the European Exchange Rate Mechanism, ERM 2, at a central rate of 746.038 kroner per 100 euro with a fluctuation band of +/- 2.25 per cent.

Currently that involves an interest-rate that is -0.25% lower than in the Euro area but the margin does vary as for example when the interest-rate rose in 2014 when the DNB tried to guess what the ECB would do next and got it wrong.

A Problem

If we think of the Danish economy then we think of negative interest-rates being implemented due to weak economic growth. Well the DNB has had to face up to this.

However, the November revision stands out as an unusually large upward revision of the compilation of GDP level and
growth……… average annual GDP growth has now
been compiled at 1.3 per cent for the period 2010-
15, up from 0.8 per cent in the previous compilation.
GDP in volume terms is now 3.4 per cent higher in
2015 than previously compiled,

Ooops! As this begins before interest-rate went negative we have yet another question mark against highly activist monetary policy. The cause confirms a couple of the themes of this website.

new figures for Danish firms’ foreign
trading in which goods and services do not cross the
Danish border entailed substantial revisions

So the trade figures were wrong which is a generic statement across the world as they are both erratic and unreliable. Also such GDP shifts make suggestions like this from former US Treasury Secretary Larry Summers look none too bright.

moving away from inflation targeting to something like nominal gross domestic product-level targeting would be a better idea.

In this situation he would be targeting a number which was later changed markedly, what could go wrong?

Also there is a problem for the DNB as we note that it has a negative interest-rate of -0.65% but faces an economy doing this.

heading towards a boom with output above the normal level of capacity utilisation……….The Danish economy is very close to its capacity limit.

Whatever happened to taking away the punchbowl as the party starts getting going?

Oh and below is an example of central banker speech not far off a sort of Comical Ali effort.

Despite the upward revision of GDP, Danmarks Nationalbank’s assessment of economic developments
since the financial crisis is basically unchanged.

The banks

This is of course “the precious” of the financial world which must be preserved at all costs according to central bankers. We were told that negative interest-rates would hurt the banks, how has that turned out? From Bloomberg.

Despite half a decade of negative interest rates, Denmark’s banks are making more money than ever before.

What does the DNB think?

Overall, the largest Danish banks achieved their
best ever performance in 2016, and their financial
statements for the 1st quarter of 2017 also recorded
sound profits…………In some areas, financial developments are similar to developments in the period up to the financial crisis in 2008, so there is every reason to watch out for
speed blindness.

Still no doubt the profits have gone towards making sure “this time is different”? Er, perhaps not.

On the other hand, the capital base has not increased notably since 2013, unlike in Norway and Sweden where the banks have higher capital adequacy.

What about house prices?

Both equity prices and prices of owner-occupied
homes have soared, as they did in the years prior to
the financial crisis.

Although the DNB is keen to emphasise a difference.

As then, prices of owner-occupied homes in Copenhagen have risen considerably, but with the difference that the price rises have not yet spread to the rest of Denmark to the same degree. The prices of rental properties have also increased and are back at the 2007 level immediately before
the financial crisis set in

It will have been relieved to note a dip in house price inflation to 4.2% at the end of 2016 although perhaps less keen on the fact that house prices are back to the levels which caused so much trouble pre credit crunch. Of course the banking sector will be happy with higher house prices as it improves their asset book whereas first-time buyers will be considerably less keen as prices move out of reach.

In spite of the efforts of the DNB I note that the Danes have in fact been reining in their borrowing. If we look at the negative interest-rate era we see that the household debt to GDP ratio has fallen from 135% to 120% showing that your average Dane is not entirely reassured by developments. A more sensible strategy than that employed by some of the smaller Danish banks who failed the more extreme version of the banking stress tests.

A Space Oddity

Politician’s the world over say the most ridiculous things and here is the Danish version.

Denmark should cut taxes to encourage people to work more, which would increase the supply of labour and help prevent the economy from overheating in 2018, Finance Minister Kristian Jensen said…

So we fix overheating by putting our foot on the accelerator?

Comment

If we look wider than we have so far today we see that international developments should be boosting the Danish economy in 2017. This mostly comes from the fact that the Euro area economy is having a better year which should boost the Danish trade figures if this from the Copenhagen News is any guide.

Denmark has been ranked seventh in the new edition of the World Competitiveness Yearbook for 2017, which has just published by the Swiss business school IMD.

But if we allow for the upwards revision to growth we see that monetary policy is extraordinarily expansionary for an economy which seems to be growing steadily ( 0.6% in Q1) . What would they do in a slow down?

We also learn a few things about negative interest-rates. Firstly the banking sector has done rather well out of them – presumably by a combination of raising margins and central bank protection as we have discussed on here frequently – and secondly they did not turn out to be temporary did they?

Yet as we see so often elsewhere some events do challenge the official statistics. From the Copenhagen Post.

Aarhus may be enjoying ample wind in its sails by being the European Capital of Culture this year, but not everything is jovial in the ‘City of Smiles’.

On average, the Danish aid organisation Kirkens Korshær has received 211 homeless every day in Aarhus from March 2016-March 2017, an increase of 42 percent compared to the previous year, where the figure was 159.

Portugal

Let me offer my deepest sympathies to all those affected by that dreadful forest fire yesterday.

The impact of negative interest-rates on the economy of Denmark

Whilst so much of the media and indeed the world were focusing on the travails of my old employer Deutsche Bank yesterday something else significant sneaked under many radars. This was the International Monetary Fund lecturing Switzerland on the subject of negative interest-rates as you can see below.

Calibrating the negative interest rate differential so as to discourage persistent inflows that can cause prolonged deflation and weaken activity is appropriate.

A rather flowery way of suggesting an interest-rate cut from the present -0.75% which is reinforced here.

Some widening of the current effective interest rate differential—either by lowering the exemption threshold or the marginal policy rate—could therefore be considered to reduce the frequency of small-scale interventions.

So the IMF would prefer that Switzerland cut its interest-rates again further into negative territory rather than intervene in foreign exchange markets. That is intriguing on two fronts and the first is the fact that it is tempting it to test where the lower bound is which I shall define as the point at which bank depositors switch to cash. The second is that it is setting interest-rate for foreigners and foreign investors rather than the domestic economy. Indeed for the domestic economy there is potentially trouble ahead according to the IMF.

Sustained low interest-rates could raise financial stability risks……..Elevated household debt and banks’ concentrated exposure to mortgages could be key amplifiers in the event of macroeconomic shocks .

Reality for Denmark

This made me think of the country which has had negative interest-rates for the longest as Denmark plunged into that icy cold world in early July 2012 when it cut to -0.2%. They have been there since apart from a brief foray to the not so giddy heights of 0.05% in late spring and summer 2014. Also if the IMF view extends to other countries which set their interest-rate more for the foreign exchanges than domestic demand there might be another reverse ferret on its way.

Effective from 8 January 2016, Danmarks Nationalbank’s interest rate on certificates of deposit is increased by 0.10 percentage point to -0.65 per cent.

As it was nobody was expecting an end to negative interest-rates anytime soon according to the Nationalbanken or DNB.

The implied overnight interest rate does not reach 0 per cent until in four years

The ordinary experience

This is for borrowers as follows according to the DNB.

Viewed over a longer period, there has generally been close to full pass-through from the rate of interest on certificates of deposit to the banks’ lending rates.

We note they took their time and wonder about how we define close but okay. However the experience for the ordinary depositor remains different.

The banks have been hesitant to pass on the negative rate of interest at Danmarks Nationalbank to small enterprises and especially to households. The latter have been completely exempt from negative deposit rates.

I have wondered along the line of the lyrics below about this.

How long has this been going on?
How long has this been going on?

As far as we can tell banks will continue to resist passing on negative deposit rates to the ordinary investor. However businesses are not exempt as some 30% of deposits are and I have pointed out the dangers to long-term business models from them.

Negative deposit rates are in widespread use for insurance and pension companies, for which the alternatives to bank deposits are placement on money market-like terms, e.g. in short-term securities, likewise at negative rates of interest.

Actually it would now appear that the pension industry likes very few potential futures.

Some pension companies have reported to the Danish Financial Supervisory Authority that substantial interest rate hikes would be the worst scenario imaginable for them.

Mortgage Rates

The Danish Mortgage Bank data is delayed but in week 22 of 2016 then the average short-term rate was -0.23% in Danish Kroner and -0.13% in Euros. The long-term rate was 2.65%.

Any signs of trouble?

If we were to find any they would be found in asset markets of which the likeliest is house prices. On that I noticed this in the DNB Monetary Review.

Since March, the yield on mortgage bonds has fallen more sharply than the yield on government bonds,

Rather awkwardly the rally was driven by foreign investors noting that the ECB (European Central Bank ) is buying such bonds ( covered bonds) in the Euro area making the Danish variety look more attractive. So what about the housing market.

Let me hand you over to a report earlier this month from the DNB which opens with an official denial of what Taylor Swift would define as “Trouble,Trouble,Trouble”.

Although house prices have risen considerably over the last 3-4 years, there are no indications that the Danish market overall is experiencing a speculative house price bubble.

Ah so over the period of negative interest-rates! In case you are wondering about the overall state of play here it is.

But today’s annual increases of 4-5 per cent do not indicate a bubble.

However it has been ” Wonderful! Wonderful! Copenhagen” for those who have invested in property there.

However, price increases in Copenhagen have been so persistent and strong that the development could be consistent with a bubble according to the test, just as in the mid-2000s……. So Danmarks Nationalbank finds that there is reason to monitor developments in Copenhagen closely.

So we learn that monitoring closely is one step up from being “vigilant” in central banker speak. Also those who want to buy in Copenhagen must feel excluded in many cases.

The Real Economy

This has been troubled during this period but has so far in 2016 seen a better phase recording quarterly GDP growth of 0.7% and then 0.5%. But considering the monetary stimulus the forecasts are hardly stellar.

Danmarks Nationalbank expects the gross domestic product (GDP) to grow by 0.9 per cent this year, rising to 1.5 and 1.8 per cent, respectively, in the next two years.

However according to the Governor there may well be trouble ahead.

“We expect the economy to reach its normal capacity level as early as 2018. Conducting expansionary fiscal policy well beyond that point is risky, especially if interest rates continue to be very low. There is a risk of overheating and economic imbalances, which it may be necessary to take measures to prevent,” says Lars Rohde.

He also thinks that fiscal policy needs tightening which means that the current establishment memo seems to have forgotten to be sent to Denmark.

Comment

There is much to consider here. Firstly I think that advocates of monetary stimulus have to conclude that the effect on economic growth has disappointed. Denmark has simply not had much and if you factor in the lower oil price it has not done well at all. As to specific news we have reports in the Copenhagen Post of businesses bring production home but also the problems of world shipping are affecting Maersk on the other side of the coin.

Meanwhile we are seeing another move higher in house prices which has even the central bank getting out its slide rule for bubbles! I also note it seems to be hinting/asking for higher taxes on property. On that front well as we see yet another record low for the 2 year bond yield of Germany as it get safe haven flows because of the problems of Deutsche Bank  we may yet see more downwards pressure on interest-rates and yields. Oh and as Elton John put it “Please don’t shoot the piano player” about the last sentence.

Something rather familiar to UK and US readers is found in Denmark which is that employment has done better than GDP growth which raises a familiar concern and theme.

Productivity growth in the Danish economy has been weak in the wake of the financial crisis. This is especially the case from the 2nd half of 2015 and onwards when the decoupling of output and the labour market situation calls into question future productivity growth and the actual sustainability of the growth in employment seen during the last year or so.

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I was interviewed on the evening show by Simon Rose yesterday.