Monday, 12 October 2020

"Bank of England questions banks over negative rates"

From the BBC:

While the Bank of England may set its base rate below zero, it is unlikely most consumers will immediately enter the topsy-turvy world of being paid to borrow money. Those on fixed-rate mortgages will see no difference, while variable-rate mortgage terms often state that borrowers will never pay less than zero.

Savers with deep pockets such as the wealthy and the banks themselves, may be charged to deposit their money. Banks depositing cash overnight at the European Central Bank currently pay 0.5% to do so. In November, Swiss bank UBS began charging up to 0.75% for cash deposits from wealthy clients.

From the BoE:

Bank Rate determines the interest rate we pay to commercial banks that hold money with us. It influences the rates those banks charge people to borrow money or pay on their savings.

This is Emperor's New Clothes stuff. Read the bit in bold!

I know that commercial banks are required by regulations to deposit a certain amount of money with the BoE, so the BoE can pay any old interest rate it likes on that, even if that is negative i.e. the BoE can charge commercial banks for holding their money. That's just a cost of doing business or a modest payment towards the value of a banking licence.

I know that there are some loan agreements where the interest rate is expressed as the BoE base rate plus or minus a certain percentage, so the contractual rate might go negative (unless the loan agreement stipulates a minimum interest rate).

And I know that in extremis, if most banks were perceived as risky, then people would accept a (small) negative interest on their deposits with those banks perceived as safe (whereby NS&I is the central bank for mere mortals), just for the peace of mind.

But there's no underlying economic reason why it should happen. It's pushing a piece of string. If it were the other way round, and banks could borrow from the BoE for negative interest rates, they would have more money to lend on to borrowers and so they might well drop the interest rates they charge. But they aren't. They are just losing money on the token amounts that they have to deposit with the BoE. So you might as well argue, commercial banks will push up the rates they charge borrowers to try and make up the shortfall (or indeed reduce deposit rates to make up the shortfall). But they are already charging as much (or paying as little) as they can get away with.

Banks do not take deposits from customers with the sole purpose of depositing them with the BoE, that just wouldn't be worth the hassle. So it's not like commercial banks have to reduce the interest rates they pay to discourage people from depositing with them. If they can get away with it, they will do it, whatever the base rate is.


Piotr Wasik said...

oh, good to know that there is something like NS&I - but have you seen their reviews?

Lola said...

"That's just a cost of doing business or a modest payment towards the value of a banking licence.". Er. Why the need for a banking licence at all?? Isn't that a sort of protection racket? Extortion?

Piotr Wasik said...

L - "Why the need for a banking licence at all". Maybe to pay "insurance" - if a bank fails, deposit accounts are guaranteed up to 85k I think.

Lola said...

PW. Bad idea. That just lets banks off the hook. It's sort of free capital to them. Without it The banks would have to obtain their own deposit insurance and the price of that would be a signal to the market as to how secure they really were. Anyway the current FRB settlement is a racket, pure and simple.

Mark Wadsworth said...

PW, they are a bit old fashioned, I know.

L, yes a banking licence (or anything to do with FSA, PRA, whatever) is a protection racket.

But forget private insurance. That works great for small businesses (and would be far better than "audit" which you no doubt have to suffer yourself), when the shit hits the fan, the govt will still bail out the entire banking and insurance sector.

The way forward is a bank asset tax, i.e. if you want the £85k deposit insurance, and all the other goodies, then pay BoE a certain % of total o/s loans and mortgages every year.

Lola said...

MW. Indeed re bank asset tax.
Re insurance. Yes.
Generally the market indicator would be (is) riskier institutions paying higher interest rates - as the Icelandic banks did leading up to 2008. And because of Bad Ideas like the FSCS 'deposit insurance' people thought their money was 'safe'. Pah. I read about various local authorities that'd used higher interest paying banks and whose treasurers were bemused when they went belly up. Sigh.
Nevertheless I can visualise how a smaller bank,mmaybe local, could use commercial deposit insurance.
But, as you say, governments nowadays will not let banks go bust.

Robin Smith said...

Some evidence the stimulus is ending up in land values?

Debunking MMT if so

Mark Wadsworth said...

L, actually, we are barking up the wrong tree here.

There is no natural reason why deposits should be insured at all.

But to the extent it is politically expedient, the only insurer in the game is the government.

So really, the choice should be, deposit with NS&I for crap or zero interest rate OR deposit with commercial banks for a far higher rate, knowing they might run off with your money (like the Icelandic banks).