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%.

 

 

How will the house price boom in the Netherlands respond to an economic slow down?

It has been a while since we have gone Dutch and taken a look at the economic situation in the Netherlands. The first point to note is that it has followed the Euro area trend for lower growth.

According to the first estimate conducted by Statistics Netherlands (CBS) based on currently available data, gross domestic product (GDP) expanded by 0.2 percent in Q3 2018 relative to the previous quarter. The growth rate was the lowest in over two years. Growth in Q3 was due to increased household consumption and international trade.

There is a difference here in that it managed to find some growth in trade as opposed to Germany where a decline pushed it into contraction in the latest quarter.  But in essence we are seeing yet again a consequence of the slow down of the Euro area monetary data feeding into economic activity. In the case of the Netherlands this came from a high base.

According to the first estimate, GDP was 2.4 percent up on the same quarter in 2017. Growth was mainly due to higher consumption. Investments in fixed assets and international trade also contributed, but less than in the previous quarter.

So we see that annual growth remains strong for now at least and that there has been a consumption boom.

In Q3, consumers spent over 2 per cent more than in Q3 one year previously. For 18 quarters in a row, consumer spending has shown a year-on-year increase.

A driver of this will be the strong employment situation.

Between August and October 2018, the number of people aged 15 to 74 in paid employment grew by an average of 20 thousand per month. Total employment stood at more than 8.8 million in October. Unemployment declined by an average of 4 thousand per month to 337 thousand.

Statistics Netherlands is harsh relative to others as it counts up to the age 75 got these purposes. Also it looks like the underemployment situation has improved too.

 The total unused labour potential in Q3 2018 comprised nearly 1.1 million people. This was almost 1.3 million one year previously.

This is not leading to a trade problem though although part of the good performance is not in line with the times.

Statistics Netherlands (CBS) reports that the total volume of goods exports grew by 5.1 percent in October relative to October 2017. Relative growth was higher than in September. In October 2018, exports of transport equipment, metal products, machinery and appliances increased most notably. The volume of imports was 4.4 percent up on October 2017.

The Netherlands must be the only place where transport equipment sales are up. Also not so many have trade volumes up right now. In terms of context we do need to note this though.

On balance, the Netherlands enjoys a goods trade surplus, i.e. exports exceeding imports. Re-exports play a significant role in the Dutch goods trade surplus. In 2016, approximately 36 percent of the surplus was caused by re-exports.

Looking Ahead

Yesterday the central bank the De Nederlandsche Bank (DNB) gave us its view.

While the economic boom is sustained, growth of the Dutch economy will slightly decelerate in the next few years. Growth in gross domestic product (GDP) is estimated at 2.5% for 2018, followed by 1.7% in 2019 and 2020.

Unlike in some Euro area countries that does qualify as a boom in these times. If we look back we see that since the 99.9 of the second quarter of 2013 GDP has risen to 112.2 where 2010=100. That also tells us that the Netherlands was pulled back by the Euro area crisis which preceded that.

The next bit is rather more uncomfortable, however.

Despite slightly lower growth figures, the Dutch economy will be running at full steam in the years ahead, with actual output exceeding its potential. Unemployment is set to remain very low. Households should benefit from a pick-up in wage growth, which will boost real disposable income in 2019 and 2020

It looks good but how is 1.7% growth “full steam” compared to this?

GDP growth peaked at 3.0% in 2017  and is estimated at 2.5% for 2018.

This is because central banks like to travel in a pack as we observe what is now their way of spinning their rather depressing view of our future.

It will recede to 1.7% in both projection years 2019 and 2020, approximating potential growth of around 1.6%, with the output gap widening from 0.3% in 2017 to 1.0% in 2018.

Sadly they never get pressed on this. After all they have interfered in so much of economic life with in this instance enormous QE and negative interest-rates but they seem to get a free pass on the issue of economic growth now being regarded as being likely to be lower than before. Even when Mario Draghi opens both the door and the window.

but certainly especially in some parts of this period of time, QE has been the only driver of this recovery.

Also even the slower growth future relies on something which has to now be in doubt.

In 2018, gross remuneration per employee in the business sector is set to regain momentum, growing by 2.3%. Our projections show that it will be 3.0% in 2019 and 3.8% in 2020, assuming the usual wage-price dynamics.

The emphasis was mine to highlight that no matter how often the output gap theory fails it comes back to life. No silver bullet seems to be pure enough to kill this vampire! Whereas if we continue to see an economic slow down then after a lag wage growth will presumably slow too rather than continue to pick-up. Although it would appear that should something like that happen an excuse is in place, what is Dutch for Johnny Foreigner please?

An alternative scenario featuring a downward correction in international financial markets sees the growth rate for emerging market economies – including China – deteriorate. This also affects the Dutch economy due to increasing risk aversion, slowing global growth and reduced confidence. Compared with our projections, this could send annual GDP growth 0.4 percentage points lower on average in 2019-2020.

House Prices

This will be on the video screens at the DNB and ECB Christmas parties,

In September 2018, prices of owner-occupied dwellings (excluding new constructions) were on average 9.3 percent higher than in the same month last year. The price increase was the same as in the previous month. This is according to the price index of owner-occupied dwellings, a joint publication by Statistics Netherlands (CBS) and the Land Registry Office (Kadaster).

This will raise a cheer and then boos.

House prices reached a record high in August 2008 and subsequently started to decline, reaching a low in June 2013.

Before the party really gets going again!

In May 2018, the price index of owner-occupied dwellings exceeded the record level of August 2008 for the first time; prices continued to rise and are at their highest level since the start of this price index in 1995. Compared to the low in June 2013, house prices were up by over 32 percent on average in September 2018.

Or in twitter terms 🍾👍

Comment

The economic going has been good in the Netherlands. Well unless you are a first-time house buyer watching prices accelerate away from you. But now even it must be wondering what 2019 will bring and how much of an economic slow down it will see? Just a continuation of the 0.2% quarterly economic growth just seen will tighten things up a bit and that happens with negative interest-rates and a ten-year bond yield of only 0.4%.

Yet some continue to churn out the line that interest-rates are going to be raised in the Euro area. I just do not get it.

 

 

 

 

 

 

The Netherlands house price boom is yet another form of bank bailout

It has been a while since we have taken a look at the economic situation in what some call Holland but is more accurately called the Netherlands. On a cold snowy morning in London – those of you in colder climes are probably laughing at the media panic over the cold snap expected this week – let us open with some good news. From Statistics Netherlands.

According to the first estimate conducted by Statistics Netherlands (CBS), which is based on currently available data, gross domestic product (GDP) posted a growth rate of 0.8 percent in Q4 2017 relative to Q3 2017. Growth is mainly due to an increase in exports. With the release of data on Q4, the annual growth rate over 2017 has become available as well. Last year, GDP rose by 3.1 percent, the highest growth in ten years.

Indeed the economic growth was something of a dream ticket for economists with exports and investments to the fore.

GDP was 2.9 percent up on Q4 2016. Growth was slightly smaller than in the previous three-quarters and is mainly due to higher exports and investments.

The trade development provides food for thought to those who remember this from 2015.

In a bid to boost trade links with Europe, on the back of the ‘One Belt, One Road’ initiative, the Port of Rotterdam has established a strategic partnership with the Bank of China,  (jpvlogistics )

The idea of Rotterdam being a hub for a latter-day Silk Road is obviously good for trade prospects although in terms of GDP care is needed as there is a real danger of double-counting as we have seen in the past.

Exports of goods and services grew by 5.5 percent in 2017……….Re-exports (i.e. exports of imported products) increased slightly more rapidly than the exports of Dutch products.

If we look back for some perspective we see that the Netherlands is not one of those places that have failed to recover from the credit crunch. Compared to 2009 GDP is at 112.7 which means that if we allow for the near 4% fall in that year it is 8/9% larger than the previous peak. Although of course annual economic growth of around 1% per annum is not a triumph and reflects the Euro area crisis that followed the credit crunch.

Labour Market

The economic growth is confirmed by this and provides a positive hint for the spring.

In January 2018, almost 8.7 million people in the Netherlands were in paid employment. The employed labour force (15 to 74-year-olds) has increased by 15 thousand on average in each of the past three months.

Unemployment is falling and in this area we can call the Netherlands a Germanic style economy.

There were 380 thousand unemployed in January, equivalent to 4.2 percent of the labour force. This stood at 4.4 percent one month previously………, youth unemployment is now at a lower level than before the economic crisis; last month, it stood at 7.4 percent of the labour force against 8.5 percent in November 2008.

After the good news comes something which is both familiar and troubling.

Wages increased by 1.5 percent in 2017 versus 1.8 percent in 2016. There was less difference between the increase rates of consumer prices and wages in 2017 than in the two preceding years.

Wage growth fell last year which of course is more mud in the eye for those who persist with “output gap” style economics meaning real wages only grew by 0.1%. 2016 was much better but driven by lower inflation mostly. So no real wage growth on any scale and certainly not back to the levels of the past. One thing that stands out is real wage falls from 2010 to 14 in the era of Euro area austerity.

House Prices

There were hints of activity in this area in the GDP numbers as we note where investment was booming.

In 2017, investments were up by 6 percent. Higher investments were mainly made in residential property.

Later I noted this.

and further recovery of the housing market.

So what is the state of play?

In January 2018, prices of owner-occupied houses (excluding new constructions) were on average 8.8 percent higher than in the same month last year. The price increase was the highest in 16 years. Since June 2013, the trend has been upward.

So much higher than wage growth which was 1.5% in 2017 and inflation so let us look deeper for some perspective.

House prices are currently still 2.0 percent below the record level of August 2008 and on average 24.8 percent higher than during the price dip in June 2013.

One way of looking at this is to add something to the famous Mario Draghi line of the summer of 2012 “Whatever it takes” ( to get Dutch house prices rising again). What it means though is that house prices have soared compared to real wages who only really moved higher in 2016 due ironically to lower consumer inflation. Tell that to a first time buyer!

Wealth Effects

This view has been neatly illustrated by Bloomberg today as whilst the numbers are for Denmark we see from the data above that they apply in principle to the Netherlands as well.

Danes have another reason to be happy: they’re richer than ever before………After more than half a decade of negative interest rates, rising property values in Denmark have left the average family with net assets of 1.9 million kroner ($314,000), according to the latest report on household wealth.

Er……

The last time Denmark enjoyed a similar boom was in 2006

If we switch back to the Netherlands its central bank published some research in January as to how it thinks house price growth has boosted domestic consumption.

From 2014 onwards, house prices have been steadily climbing again. The coefficient found for the Netherlands implies that some 40% of cumulative consumption growth since 2014 (i.e. around 6%) can be attributed to the increase in real house prices.

We can take the DNB research across national boundaries as well at least to some extent.

The first group comprises the Netherlands, Sweden, Ireland, Spain, the United States and the United Kingdom, and the second group includes Italy, France, Belgium, Austria and Portugal.

In economic theory such a boost comes from a permanent boost to house prices which is not quite what we saw pre credit crunch.

Between 2000 and 2008, average real house prices went up by 24% in the Netherlands. Between 2008 and 2014, as a result of the financial crisis, they went down again by 24%.

Debt

This is an issue in the Netherlands.

 As gross domestic product (GDP) rose more sharply than debts, the debt ratio (i.e. debt as a percentage of GDP) declined, to 218.8 percent. Although this is the lowest level since 2008, it is still far above the threshold of 133 percent which has been set by the European Commission.

If we look at household debt.

After a period of decline, household debts started rising as of September 2014, in particular the level of residential mortgage debt. The latter increased from 649 billioneuros at the end of September 2014 to 669 billion euros at the end of June 2017.

There is also this bit highlighted by the DNB last October.

Almost 55% of the aggregate Dutch mortgage debt consists of interest-only and investment-based mortgage loans, which do not involve any contractual repayments during the loan term. They must still be repaid when they expire, however. Such loans could cause frictions, for example if households are forced to sell their home at the end of the loan term.

Comment

There are a litany of issues here as we see another example of procyclical monetary policy where and ECB deposit rate of -0.4% and monthly QE meet economic growth of around 3%. This means that in spite of the fact that real wages have done little house prices have soared again. The problem with the wealth effects argument highlighted above is that much if not all of it is a wealth distribution and who gave the ECB authority to do this?

Those who own homes in a good location have it made. While other people – especially people who rent their homes and people with bought homes in less favorable locations – fall behind. ( NL Times)

Those who try to be first time buyers are hit hard but a type of inflation that does not appear in the CPI numbers.

The truth is that the biggest gainers collectively are the banks. Their asset base improves with higher house prices and current business improves as we see more mortgage borrowing both individually and from the business sector. We moved from explicit bank bailouts to stealth ones as we see so many similar moves around the world. Banks do not report that in bonus statements do they? This time is different until it isn’t when it immediately metamorphoses into nobody’s fault.

 

 

 

 

 

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.

What next for the world of negative interest-rates?

There were supposed to be two main general economic issues for 2017. The first was the return of inflation as the price of crude oil stopped being a strong disinflationary force. The second was that we would see a rise in interest-rates and bond yields as we saw an economic recovery combined with the aforementioned inflation. This was described as the “reflation” scenario and the financial trade based on it was to be short bonds. However we have seen a rise in inflation to above target in the UK and US and to just below it in the Euro area but the bond market and interest-rate move has been really rather different.

Negative Official Interest-Rates

Euro area

These are still around particularly in Europe where the main player is the European Central Bank. This plays out in three main areas as it has an official deposit rate of -0.4%, it also has its long-term refinancing operations where banks have been able to borrow out to the early 2020s at an interest-rate that can also be as low as -0.4% plus of course purchasing sovereign bonds at negative yields. So whilst the rate of monthly bond purchases has fallen to 60 billion Euros a month the envelope of negative interest-rates is still large in spite of the economic recovery described earlier this week by ECB President Draghi.

As a result, the euro area is now witnessing an increasingly solid recovery driven largely by a virtuous circle of employment and consumption, although underlying inflation pressures remain subdued. The convergence of credit conditions across countries has also contributed to the upswing becoming more broad-based across sectors and countries. Euro area GDP growth is currently 1.7%, and surveys point to continued resilience in the coming quarters.

Indeed the economic optimism was turned up another notch by the Markit PMI business surveys on Tuesday.

The PMI data indicate that eurozone growth remained impressively strong in May. Business activity is expanding at its fastest rate for six years so far in the second quarter, consistent with 0.6- 0.7% GDP growth. The consensus forecast of 0.4% second quarter growth could well prove overly pessimistic………

That is better than “resilience” I think.

Sweden

This is one of the high fortresses of negative interest-rates as you can see from the latest announcement.

The Executive Board decided to extend the purchases of government bonds by SEK 15 billion during the second half of 2017 and to hold the repo rate unchanged at −0.50 per cent. The repo rate is now not expected to be raised until mid-2018, which is slightly later than in the previous forecast.

As you can see a move away from the world of negative interest-rates seems to have moved further into the distance rather than get nearer. If you look at the economic situation then you may quite reasonably wonder what is going on here?

Swedish economic activity is good and is expected to strengthen further over the next few years. Confidence indicators show that households and companies are optimistic and demand for exports is strong. The economic upturn means that the demand for labour is still strong.

We do not have the numbers for the first quarter but we do know that GDP ( Gross Domestic Product) increased by 1% in the last quarter of 2016. If you read the statement below then it gets ever harder to justify the current official interest-rate.

Rising mortgage debt is a serious threat to Sweden’s economy while regulators need to introduce tougher measures to strengthen banks against future shocks, the central bank said in its semi-annual stability report, published on Wednesday………Swedish house prices have doubled over the last decade. Apartment prices have tripled. Household debt levels – in relation to disposable income – are among the highest in Europe.

Switzerland

The Swiss National Bank feels trapped by the pressure on the Swiss Franc.

The Swiss franc is still significantly overvalued. The negative interest rate and the SNB’s willingness to intervene in the foreign exchange market are necessary and appropriate to ease pressure on the Swiss franc. Negative interest has at least partially restored the traditional interest rate differential against other countries.

You may note that they are pointing the blame pretty much at the ECB and the Euro for the need to have an interest-rate of -0.75% ( strictly a range between -0.25% and -1.25%).

Denmark

As you can see Denmark’s Nationalbank has not moved this year either.

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.

The 2016 move left it a little exposed when the ECB cut again later than year but it remains firmly in negative interest-rate territory.

Japan

Until now we have been looking at issues surrounding the Euro both geographically and economically but we need to go a lot further east to see the -0.1% interest-rate of the Bank of Japan. Added to that is its policy of bond purchases where it aims to keep the ten-year yield at approximately 0%. So there is no great sign of a change here either.

 

The United States

Here of course we have seen an effort to move interest-rates to a move positive level but so far we have not seen that much and it has not been followed by any of the other major central banks. Indeed one central bank which is normally synchronised with it is the Bank of England but it cut interest-rates and expanded its balance sheet last August so it has headed in the opposite direction this time around.

This theme has been reflected in the US bond market where we saw a rise in yields when President Trump was elected but I note now that not much has happened since. The ten-year Treasury Note now yields around 2.25% which is pretty much where it was back then. We did see a rise to above 2.6% but that faded away as events moved on. Even the prospect of a beginning of an unwinding of all of the bond holdings of the Federal Reserve does not seem to have had much impact. That seems extraordinarily sanguine to me but there are two further factors which are at play. One is that investors do not believe this will happen on any great scale and also that there is no rule book or indeed much experience of how bond markets behave when a central bank looks for the exit.

How much?

There was a time when we were regularly updated on the size of the negative yielding bond universe whereas that has faded but there is this from Fitch Ratings in early March.

Rising long-term sovereign bond yields across the eurozone contributed to a decline in outstanding negative yielding sovereign debt to $8.6 trillion as of March 1 from $9.1 trillion near year-end 2016.

The fall such as it was seemed to be in longer dated maturities.

The total of negative-yielding sovereign debt with remaining maturities of greater than seven years fell significantly to $0.5 trillion as of Mar. 1 from over $2.6 trillion on June 27 2016.

Since then German bond yields have moved only a little so the general picture looks not to be much different.

Comment

I wanted to point out today the fact that whilst it feels like the economic world has moved on in 2017 in fact the negative interest-rate and yield story has changed a lot less than we might have thought. It has fallen out of the media spotlight and perceptions but it has remained as a large iceberg floating around.

One of my themes has been that we will find out more about the economic effects of negative interest-rates as more time passes. Accordingly I noted this from VoxEU yesterday.

Banks throughout the Eurozone are reluctant to cut retail deposit rates below zero, wary of possible client reactions

That has remained true as time has passed and it seems ever clearer that the banking sector is afraid of a type of deposit flight should they offer less than 0% on ordinary retail savings. That distinguishes it from institutional or pension markets where as we have discussed before there have been lots of negative yields and interest-rates. Also if we look at average deposit rates there remain quite large differences in the circumstances.

For example, the average rate on Belgian deposits has dropped to 0.03%. If Belgians took their money across the border, they could get almost ten times that in the Netherlands (0.28%). In France even, rates average 0.43%.

If we move to household borrowing rates we see that there are much wider discrepancies as we wonder if at this level we can in fact call this one monetary policy?

The Finns borrow against 1.8%, the Irish pay 3.6%

Some of the differences are down to different preferences but as the Irish borrowing is more likely to be secured ( mortgages) you might reasonably expect them to be paying less. Oh and as a final point as we move to borrowing we note that rates are a fair distance from the official ones meaning that the banks yet again have a pretty solid margin in their favour, which is somewhat contrary to what we keep being told.