‘Truly scary’ scenario facing the world

 

The Reserve Bank slashed the official interest rate to an all-time low of 0.75 per cent earlier this month, with most experts agreeing that figure would soon fall further.

And Australia is not alone, with plummeting interest rates now a trend across the globe.

It's become such a hot topic the phenomenon of "negative interest rates" - when the cash rate falls below zero - has been making headlines for months now.

In August, Denmark's Jyske Bank launched the world's first negative interest rate mortgage, effectively paying borrowers 0.5 per cent a year to take out a loan.

Australia doesn't have a hyper-competitive banking system, and experts agree it's unlikely Aussies will ever be paid to take out a loan.

However, if the RBA did slash the official cash rate into negative territory, mortgagees could expect to score some seriously good deals - although those with cash in the bank would suffer and lose money instead of earning interest, which is what normally happens.

In February, the International Monetary Fund (IMF) also wrote that "future downturns are inevitable" - but "severe recessions have historically required 3-6 percentage points cut in policy rates".

Because interest rates are already at such low levels across the world, few countries have the wiggle room needed to cut further if another financial crisis occurred.

As a result, an IMF study earlier this year showed how central banks could "set up a system that would make deeply negative interest rates a feasible option".

But it's a scenario that has been slammed as "truly scary" by outspoken tech entrepreneur Matt Barrie.

Mr Barrie, from freelancing marketplace Freelancer, told news.com.au the IMF was openly discussing "taking interest rates to negative 4 per cent next crisis".

Matt Barrie says negative interest rates are a ‘truly scary’ prospect. Picture: Renee Nowytarger/The Australian
Matt Barrie says negative interest rates are a ‘truly scary’ prospect. Picture: Renee Nowytarger/The Australian

"The function of central banks like the RBA is to … stabilise the economy. Typically, when we're heading towards a recession, what happens is that banks will cut interest rates … which is designed to penalise savers so instead they will take their money out and spend it. In Australia, the big thing to buy is houses which pumps the property market - it's the major thing driving the economy," he said.

"The problem is that around the world, central banks have used that ammunition already - interest rates were cut during the global financial crisis and they didn't really rise after that … so it's not enough of a buffer to cut in the next recession.

"What's really scary is the IMF is talking quite openly about central banks considering cutting rates to negative 4 per cent … we used to talk about a 'zero lower bound' which meant only cutting to zero, but now the language has changed."

Mr Barrie said the banking system worked by rewarding customers for effectively "lending" their money to financial institutions in the form of interest.

But when interest rates fall dramatically, the reverse happens, which can seriously warp the system.

"Why on earth would you lend to a bank when the bank charges you and you lose money? It's completely bizarre, and the whole financial system starts to break down at that point," Mr Barrie explained.

He said he believed talk of negative interest rates was one of many signs the Australian - and global - economy was in trouble.

"Either you believe in magic or you believe in maths, and if you look at the maths, Australian households are world leaders in debt, we have extremely overpriced property, the birthrate is below the replacement rate and wages are not going up," he said.

"At some point we've got to pay the piper … and the indications to me are we're going to go through pain, and I don't think we're too far off."

Realestate.com.au chief economist Nerida Conisbee agreed it was becoming "increasingly clear" monetary policy was no longer working as effectively as it used to.

As the cash rate moves closer to zero in Australia, Ms Conisbee said there were certain measures the Government and the RBA could take to try to get the economy moving again - including adopting negative interest rates.

"The idea of negative interest rates is to force people, businesses (and the) Government to spend and banks to lend. Holding money makes far less sense when it loses value. Several countries now have negative interest rates - the euro zone now has negative interest rates as does Japan," she said, adding it "seems unlikely" the RBA will move to negative rates "at this stage".

As interest rates fall, there’s less incentive to keep your cash in the bank. Picture: iStock
As interest rates fall, there’s less incentive to keep your cash in the bank. Picture: iStock

"Of course negative interest rates are on the cards because it's clear there's not much more room to move, and there are only three more cuts that can potentially take place," she said.

Ms Conisbee said while homeowners personally celebrated interest rate cuts, dramatic cuts were "not a good sign" for the wider economy.

"Rates are going down but at the moment people are going pretty well … but if the unemployment rate keeps kicking up it could get to the stage where people start to feel far more anxious," she said.

"And the other problem for people - particularly older people who don't have mortgages and have money in the bank - is the very stressful situation of not only getting zero interest on their savings in the bank, but things like shares are highly volatile and uncertain at the moment, so there aren't many places people can put their money to earn a fairly decent return."

Ms Conisbee said authorities would likely be investigating a range of other measures, including quantitative easing - a term that describes the creation of new money, which is sometimes referred to as the government "printing money".

"If interest rates get to zero, the RBA may look to buy government bonds to increase the money supply and get people, businesses and government to invest, lend and spend more," she said.

"They could also do something similar to what the Bank of England did once Brexit was announced - lend money to banks at a rate similar to the cash rate - (known as) term funding."

She said the success rate of quantitative easing was "mixed", as it was somewhat successful in the US and UK but less so in Japan.

"It may be that the policy works well as a short-term fix to an economic crisis situation … but in countries with structural problems (like) Japan's rapidly ageing population, it may not work as well," Ms Conisbee said.

Other options could include increased pressure on banks to pass on interest rate cuts in full, further tax cuts, an increase in public spending and the loosening of planning restrictions to kickstart the building sector.



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