May you have to pay your bank to save money?

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Large banks in countries with negative interest rates have so far been reluctant to pass them on


Countries are forced to use extreme measures to keep the economy afloat amid the coronavirus crisis.

Now the Bank of England has signaled that it could take the cost of borrowing below zero.

Last month, the Bank began new work on how negative interest rates could affect banks and the economy in general.

But what exactly are negative interest rates? And could a world where savers are penalized and rewarded borrowers end up doing more harm than good?

What are the negative interest rates?

The term “interest rate” is often used interchangeably with the base rate of the Bank of England.

Described as the »
highest interest rate
in the United Kingdom, “the prime rate determines the amount of interest that the Bank of England pays to financial institutions that hold money with it, and what it asks them to borrow.

High street banks also use it to determine the amount of interest they pay to savers, as well as what they charge people who take out a loan or mortgage.

The Bank of England generally lowers interest rates when it wants people to spend more and save less.

This reduced them to one
new low of 0.1% in March
to try to stimulate the economy in the middle of the
Coronavirus pandemic
.

In theory, a drop in interest rates below zero should have the same effect. But in practice, it’s a little more complicated.

After all, why would someone pay to put money into a savings account or lend money to someone when they can keep cash at home for free?

Why could it happen now?

The Bank of England’s number one job is to keep prices in the ever-growing economy.

This is the Bank’s inflation target set at 2% by the government.

Inflation, measured by the Consumer Price Index (CPI),
fell to 0.8% in April
, against 1.5% in March.

While that means the pound in your pocket is stretching more right now, if inflation stays low for too long, bosses start to factor it into compensation reviews. This can weaken consumer confidence and spending.

Central banks have cut interest rates to boost inflation for years. But as rates neared zero in the developed world, a handful went further.

Sweden, Switzerland, Japan and the 19 euro area countries all took interest rates below zero.

In Switzerland, negative interest rates have also helped discourage investors from paying money into the country during times of uncertainty.

How will it affect savers?

British savers have already seen their yields decline in recent years.

The average instant access account in the UK pays only 0.45%, according to the Bank of England, while accounts that require you to lock your money currently offer an average return of less than 1%.

In countries where interest rates are below zero, commercial banks have passed them on to large corporations.

However, the evidence suggests that there is a much higher bar for transmitting pain to ordinary savers.

Christina Nyman, chief economist of Swedish lender Handelsbanken, says that charging savers money on their own account is considered “taboo” in Sweden.

She says, “The competition is fierce and households are ready to transfer their money to another bank, so no one wants to lose business.”

The Swiss banks UBS and Credit Suisse impose negative rates only on deposits of more than 2 million Swiss francs.

In Germany, where some banks charge deposit fees of more than € 100,000 (£ 90,000), some people have started putting their money in safes.


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German demand for safes has increased since the European Central Bank introduced negative interest rates.


According to the German central bank, the physical cash holdings of families and businesses have almost tripled to 43.4 billion euros since the European Central Bank (ECB) introduced a negative deposit rate in 2014.

But Capital Economics’ David Oxley says there has been no broader transition to cash because most people still prefer the security and convenience of keeping it in the bank.

Putting it in a safe “risks losing, stealing, or damaging the money,” he says. “Bank deposits can’t catch fire, but banknotes can. “

What about borrowers?

Negative rate mortgages already exist. Last year, Danish bank Jyske announced that it would actually pay borrowers 0.5% a year to take out a 10-year loan.

James Pomeroy, an economist at HSBC, says this was only possible due to the nature of the mortgage market.

When a person in Denmark applies for a home loan, Danish banks act as an intermediary between potential borrowers and investors.

“In Denmark the banks don’t take the hit, the investors do,” said Pomeroy. “The banks then charge higher product fees, so they actually made money. “

But it is unlikely that negative rate mortgages will be offered in the UK any time soon.

When UK interest rates were lowered to 0.5% in March 2009, some borrowers thought they might be online for a payment.

Approximately 1,500 customers from Cheltenham and Gloucester
had a mortgage that was 1.01 percentage points below the Bank of England prime rate.

But any prospect of a windfall was quickly shattered when financial regulators described interest payments as “a one-way bond for the borrower.”


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Matt Cardy


Legend

About 1,500 borrowers from Cheltenham & Gloucester did not benefit from negative interest rates when the Bank of England cut rates to 0.5% in 2009.


What are the side effects of negative interest rates?

Negative interest rates have affected banks’ profits by reducing the spread between the money they make on loans and what they pay to savers.

“If not passed on to customers, negative rates would hurt the profitability of banks, especially at a time when they should be hit by loan losses linked to the crisis,” said Danae Kyriakopoulou, chief economist. at the Official Forum of Monetary and Financial Institutions (OMFIF). ).

Negative interest rates are a particular challenge for mortgage lenders, who hold around £ 1 in £ 5 in UK savings accounts.

While commercial banks can access cheaper loans by tapping into the financial markets, mortgage companies have to raise at least half of their funding from individual savers.


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At national scale


Legend

Mortgage companies like Nationwide take care of £ 1 in £ 5 of British savings


The Bank of England is assessing the impact of negative rates on the profits of UK banks and mortgage lenders, as well as their effects on insurers and pension funds.

It examines whether the modification of a scheme which
rewards small business loans with access to cheap money
, or by protecting some of the money central lenders park at the central bank against negative rates, can help offset the profit blow.

Kyriakopoulou says more work needs to be done before negative rates can be rolled out in the UK.

“An advantage in the United Kingdom, compared to the euro zone for example, is that we have seen strong coordination between the Treasury and the Independent Bank of England in terms of measures to respond to the crisis,” he adds. she.

“Provided that negative rates are also accompanied by continued support for the banking sector, this would help cushion the negative impact of policy on the banking sector.”


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