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Negative Interest Rate Policy

A negative interest rate policy (NIRP) is a monetary policy that is used by central banks to keep negative rates in the country. The rates are kept at below zero percent to encourage people to invest and spend money. When a central bank implements NIRP, banks will have to pay a certain sum to the central bank for keeping money in its vault. The banks usually pass on this cost to the consumers as a result of which they avoid keeping their money saved in the bank.

Characteristics of NIRP

Due to lower consumer spending levels, prices of goods fall. As a result, manufacturers are forced to reduce their activities that lead to a slowdown in the economy and an increase in unemployment. NIRP monetary policy is usually applied during such situations to encourage individuals to increase their spending.

When the policy is implemented, consumers usually prefer to invest their money instead of saving it in a bank. Theoretically, this should lead to an increase in prices of goods that will encourage manufacturers to again increase their activities leading to a positive effect on the economy. However, this does not always happen in real world.

Drawbacks of NIRP

NIRP policy is not enough in the event of strong deflationary trends. In order to stimulate the economy, the government also needs to increase its spending on infrastructure projects and create additional jobs.

Another drawback of NIRP is that it encourages banks to lend money more freely to investors without checking their creditworthiness. This will increase the risk of default on loans that will put financial strain on the bank’s profitability.

Lastly, the monetary policy may provide negative effects if the consumers are fearful of investing their money in the market. This may further weaken the economy creating a vicious cycle where the policy makers will be forced to cut rates further to prevent increasing rate of deflation. The only way this policy can be effective when it is complemented with other monetary and fiscal policies with the main intent of creating a positive investment climate that leads to increased economic activity.


Further Reading


Overcoming the zero bound on interest rate policy
www.jstor.org [PDF]
… If one interprets his interest on reserves as a negative cost of carry, then his analysis … market opera- tions could counteract the effect of an adverse demand shock when interest rates are at … Once the short nominal interest rate has fallen to the cost of storing money, an expansion …

Negative nominal interest rates: Three ways to overcome the zero lower boundNegative nominal interest rates: Three ways to overcome the zero lower bound
www.sciencedirect.com [PDF]
… If one interprets his interest on reserves as a negative cost of carry, then his analysis … market opera- tions could counteract the effect of an adverse demand shock when interest rates are at … Once the short nominal interest rate has fallen to the cost of storing money, an expansion …

Financial stability and optimal interest-rate policyFinancial stability and optimal interest-rate policy
papers.ssrn.com [PDF]
… If one interprets his interest on reserves as a negative cost of carry, then his analysis … market opera- tions could counteract the effect of an adverse demand shock when interest rates are at … Once the short nominal interest rate has fallen to the cost of storing money, an expansion …

Repurchase agreements with negative interest ratesRepurchase agreements with negative interest rates
papers.ssrn.com [PDF]
… If one interprets his interest on reserves as a negative cost of carry, then his analysis … market opera- tions could counteract the effect of an adverse demand shock when interest rates are at … Once the short nominal interest rate has fallen to the cost of storing money, an expansion …

Illiquid banks, financial stability, and interest rate policyIlliquid banks, financial stability, and interest rate policy
www.journals.uchicago.edu [PDF]
… If one interprets his interest on reserves as a negative cost of carry, then his analysis … market opera- tions could counteract the effect of an adverse demand shock when interest rates are at … Once the short nominal interest rate has fallen to the cost of storing money, an expansion …

Interest rate policy and the inflation scare problem: 1979-1992Interest rate policy and the inflation scare problem: 1979-1992
papers.ssrn.com [PDF]
… If one interprets his interest on reserves as a negative cost of carry, then his analysis … market opera- tions could counteract the effect of an adverse demand shock when interest rates are at … Once the short nominal interest rate has fallen to the cost of storing money, an expansion …

Study on the Effectiveness of China's Interest Rate Policy <span style=[J]' src='/thumbnails/?img=http%3A%2F%2Fen.cnki.com.cn%2FArticle_en%2FCJFDTotal-JRYJ200305000.htm' />Study on the Effectiveness of China's Interest Rate Policy [J]
en.cnki.com.cn [[J]' href='https:/api.miniature.io/pdf?url=en.cnki.com.cn%2FArticle_en%2FCJFDTotal-JRYJ200305000.htm'>PDF]
… If one interprets his interest on reserves as a negative cost of carry, then his analysis … market opera- tions could counteract the effect of an adverse demand shock when interest rates are at … Once the short nominal interest rate has fallen to the cost of storing money, an expansion …

Balance sheets and exchange rate policyBalance sheets and exchange rate policy
pubs.aeaweb.org [PDF]
… If one interprets his interest on reserves as a negative cost of carry, then his analysis … market opera- tions could counteract the effect of an adverse demand shock when interest rates are at … Once the short nominal interest rate has fallen to the cost of storing money, an expansion …

Innovations in interest rate policyInnovations in interest rate policy
www.jstor.org [PDF]
… If one interprets his interest on reserves as a negative cost of carry, then his analysis … market opera- tions could counteract the effect of an adverse demand shock when interest rates are at … Once the short nominal interest rate has fallen to the cost of storing money, an expansion …



Q&A About Negative Interest Rate Policy


How much does it cost to borrow $100 from my bank if I leave $10 000 sitting idle in my chequing account with no regular payments going into it ?

If we assume that all other factors remain

What does NIRP tend do encourage individuals?

Individuals tend to increase their spending when it is implemented.

How does NIRP affect manufacturers?

Manufacturers are forced into reducing their activities when it is implemented that leads into an increase in unemployment and slowdown of economy.

How do you calculate an annualized interest rate?

You annualize by multiplying by 12. For example if you have a monthly interest rate of 0.1% then your annualized interest would be 0.12%.

Why are there different types of rates for loans and savings accounts?

The reason that there are different types of rates for loans and savings accounts is because they are two very different things with two very different purposes. A loan has to be paid back in full at some point in time whereas a deposit account can remain open indefinitely without any payments being made to close it down (unless specifically requested). Therefore banks charge more for loans than they do for deposits because they know that depositors will not want to pay them anything when their money is returned so they make sure that people who take out loans pay them something extra to compensate them for this risk (and also because they can).

What is the definition of interest rate?

Interest rate is the amount of interest due per period, as a proportion of the amount lent, deposited or borrowed.

What factors affect the cost of borrowing money from a bank?

Factors affecting the cost include how much you borrow, what type of account you use to hold your money with the bank, whether you pay into it regularly or leave large amounts sitting idle in your account and how long you have been doing business with them before taking out a loan from them .

What does an interest rate depend on?

An interest rate depends on principal sum, compounding frequency and length of time over which it is lent, deposited or borrowed.

What is a negative interest rate policy?

A negative interest rate policy (NIRP) is a monetary policy that is used by central banks to keep the rates below zero percent.

How does NIRP affect consumers?

Banks will have to pay a certain sum to the central bank for keeping money in its vault. The banks usually pass on this cost to the consumers as a result of which they avoid keeping their money saved in the bank. Due to lower consumer spending levels, prices of goods fall. As a result, manufacturers are forced to reduce their activities that lead to a slowdown in the economy and an increase in unemployment.

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