Volvo, Ikea, Abba, and the destruction of money...

Tim Cavanaugh | July 3, 2009

Sweden's Riksbank has taken a pro-inflationary step other central banks can only envy: negative interest rates. Don't ask me to explain the mechanism, but the bank is now offering an effective deposit rate of negative .25%. The move appears to have succeeded in weakening the Swedish crown against the Euro.

Inflationists in the U.S. have been debating similar ideas, and even some more surprising stuff, such as the harebrained dollar decimation scheme, in which every tenth buck will be treated the way General Philippe Pétain dealt with the French army mutineers. Because more than 80 percent of the American work force is still employed, and because Americans have a pretty broad sense that they're getting ripped off when their money is devalued (because they are in fact getting ripped off), such overt policies seem like tough sells.

But could the Fed work a negative-interest-rate scheme, whose effects wouldn't be obvious right away? Anti-Swedenism rears its ugly head, as Mish Shedlock wishes the Scandinavian kingdom bad luck — and hopes the bad luck comes soon, before we end up with another Swedish export that seems good at the time but ends up filling us with shame and regret:

The global economy is in a mess because of the lack of savings not because of an excess of it. People spent money they did not have, pushing asset prices to ridiculous levels. Banks, in belief that asset prices would keep rising exponentially, increased leverage. Now consumers everywhere are retrenching in the wake of the collapse, a much needed phenomenon.

In light of the above, punishing savers with negative deposit rates is the height of stupidity.

It would be fitting if there was an immediate run on deposits. And if that happens what will Sweden do? Halt deposits? Sweden risks (and deserves) a currency collapse and bank runs for this insane effort. Look for capital flight in Sweden.

We should all be rooting for the demise of Sweden lest Bernanke or some other Central Bank clowns try the same thing. The risk is that Sweden does not immediately suffer for this stupidity and that Bernanke tries to do the same thing.

One thing is certain. This is eventually going to blow sky high. Let's hope it does before Bernanke gets the same brilliant idea.

Comments

Brian Sorgatz|7.3.09 @ 6:51PM|#

Volvo, Ikea, Abba, and the destruction of money...

Don't forget the unintelligible muppet chef.

</|7.3.09 @ 7:14PM|#

Bikini Team

B|7.3.09 @ 7:17PM|#

If it can destroy the economy, I am sure this administration will try it sooner or later. One wonders though if they will be able to stage a townhall with planted questioners on a subject such as inflation and negative interest rates.

Mister DNA|7.3.09 @ 7:35PM|#

Let The Right One In is a damned good Swedish vampire movie.

Shannon Love|7.3.09 @ 7:37PM|#

I these ideas arise because economist forget that money isn't anything more than an accounting tool. The true economy is the barter of material goods and human skills that is merely mediate by money. Money is just a means of transferring information between individuals.

A monetary system is an information system like the internet. Trying to improve the economy by inflating the money supply is like having the packet sizes on the internet so that each transaction has to send twice as many packets. It does nothing to increase the amount of actual material work that gets done and it is that work that will dig us out of this mess.

Russ 2000|7.3.09 @ 7:48PM|#

such overt policies seem like tough sells

Not when Jesus H. Obama sells them.

Typical human|7.3.09 @ 7:54PM|#

You're gonna charge me .25% on my deposits? F you and the horse you rode in on, I'm taking my money out.

Oh, you mean you'll pay me .25% interest and just charge me a $6 a month account maintenance fee? I guess that's not so bad...

|7.3.09 @ 8:02PM|#

Andy Murray lost to Roddick. Poor limeys, they can't get to the finals of their own tournament.

Federer is going to win, I think. His motivation to have the most titles in history is very strong.

Ebeneezer Scrooge|7.3.09 @ 8:04PM|#

The move appears to have succeeded in weakening the Swedish crown against the Euro.

You don't say.

|7.3.09 @ 8:09PM|#

Not to nitpick, but if the inflation rate is 3% and the deposit interest rate is .25%, you are already getting a negative return of -2.75%.

Mr. Chartreuse|7.3.09 @ 9:28PM|#

So if I take out a loan, the bank pays me interest (or in this case the Swedish Central Bank pays interest to the other banks)?

That's crazy if I understood it correctly.

|7.3.09 @ 10:42PM|#

I heard great things about Let The Right One In, so I rented it. It is seriously one of the worst movies I have ever seen. I watched half in Swedish and half in English. It was miserable either way. It is an obvious and meaningless film. Save your time and money. The only worse vampire movie was the Tom Cruise-Anne Rice disaster.

Ebeneezer Scrooge|7.4.09 @ 4:56AM|#

What about the movie where Obama does ObamaCare and Cap and Trade in a one-two punch?

Ebeneezer Scrooge|7.4.09 @ 5:00AM|#

Not to nitpick, but if the inflation rate is 3% and the deposit interest rate is .25%, you are already getting a negative return of -2.75%.

But inflation, bad as it is, can't shut down the economy as fast and effectively as decreeing a negative interest rate.

Ebeneezer Scrooge|7.4.09 @ 5:03AM|#

Let The Right One In is a damned good Swedish vampire movie.

But we all know that Swedish economists couldn't possibly be vampires.

Ebeneezer Scrooge|7.4.09 @ 5:05AM|#

effective deposit rate

btw Tim, your link is broken, you left off the "h" at the front end.

|7.4.09 @ 5:29AM|#

Several thoughts from Europe:

Germany is in the midst of a crisis and in germany, private saving is the highest in europe and even higher compared to the US. Still, the crisis has hit Germany harder than most other countries. One explanation is that exports were only sustainable as long as you guys lived over your means. So, actually, Germany suffers the mistakes of other people...

But as you see saving alone doesn't save you from a crisis..

|7.4.09 @ 8:40AM|#

While a higher price does generally result in an increase in quantity supplied, it also results in a decrease in quantity demanded. The correct price is not always "higher" because of the impact on supply. The "correct" price is where quantity supplied equals quantity demanded.

Rewarding people for saving only is useful if those savings have some productive purpose that generates a return greater or equal to the amount paid. In other words, it only makes sense if there is a shortage of funds at the current interest rate.

The simplest way to understand the situation is that the interest rate "should" be at a level where the quantity of saving supplied equals the quantity of investment demanded. If at any particular interest rate, the quantity of saving supplied is greater than the quantity of investment demanded, then a lower interest rate is necessary to coordinate the individual decisions of market participants.

Because "saving" in this context is that part of income not spent on consumer goods and "investment" is spending by firms on capital goods, an imbalance between saving and investment is simultaneously an imbalance between the resources available for production and the demand to use those resouces to produce consumer and capital goods. In other words, if the current interest rate is "too high" then not only will there be more saving than investment, there will less spending on capital and consumer goods together than the amounts that could be produced given the land, labor, and capital available for production.

To further complicate matters, however, there is more than one interest rate in the economy. Interest rates vary by risk premia as well as the term to maturity. Long interst rates vary from current short rates based on expectations of future short rates and a liquidty premium, making long term rates higher because of the committment of funds.

This is important because the interest rates near zero in the U.S. (and now, slightly below zero in Sweden) have no nominal risk and are very short term. There are plenty of interest rates that are well above zero.

If many savers want to hold low (or zero) risk financial assets, particularly short term ones, then the result will be a change in the market risk premia and liquidity premia. Risky and long term interest rates rise and riskless (or low risk) and short term rates fall. These adjustments clear the market. Quantities supplied and demanded adjust to clear the market at both ends.

It is a error to look just at the low risk, short term end of the market and see the low rates there, and think that this reflects overall market conditions. Yes, deposits at the "Fed" of Sweden are paying -.25%. Apparently a lot of people really want to hold riskless, zero term to maturity "securities."

Becaues real world investment projects take time to pay off and involve risk, the only way there can be a zero term to maturity, zero risk asset is if someone else is willing to accept the risk (including the risk of paying off creditors before the funded project matures.) This requires compensation. That it is ever possible to lend without risk and with a promise to receive payment on demand, all while receiving interest payments is remarkable. That people would have to _pay_ to receive this deal should be no surprise.

I am not an inflationist. I favor a monetary policy aimed at price stability in the long run--total final sales (nominal) growing with the productive capactiy of the economy. Currently, spending in the U.S. economy is about 3% below a trend consistent with zero inflation. Short term, low risk interest rates may be close to zero, but they are still too high. They should be negative. There are plenty of interest rates that remain well above zero, for example, BAA corporates are running about 7%. Of course, that requires a committment of money for 30 years (though you can always sell early, maybe at a loss) as well as a risk of default. If you are not willing to take those risks, why should someone take them for you and reward you for saving you money in a way that makes them take all the risk?

The notions that "low" interest rates are inflationary or that "high" interest rates are good because they reward saving are foolish. You know.. it is supply _and demand_.

There are market processes that will return the economy to equilibrium even with excessively high short term, zero risk interest rates. One possibility is that prices (including wages) will fall enough so that the real value of base money (and the national debt gernerally) will rise enough so that people will save less and consume more. (See, the "solution" is not more saving.) Another possibility is that prices (including wages) will fall so much, that they will "overshoot" and be expected to rise. The _real_ interest rate, adjusted for inflation will turn negative. See, negative real interest rates.

zoltan|7.4.09 @ 9:52AM|#

What about the movie where Obama does ObamaCare and Cap and Trade in a one-two punch?


I believe that's called "Apocalypse Now".

|7.4.09 @ 11:34AM|#

Not to nitpick, but if the inflation rate is 3% and the deposit interest rate is .25%, you are already getting a negative return of -2.75%.

But that's still 0.25% better than stuffing the money under your mattress. I think the big difference with explicitly negative interest rates is that you're actually better off putting the money in your mattress than leaving it in the bank.

royst|7.4.09 @ 11:56AM|#

I think the big difference with explicitly negative interest rates is that you're actually better off putting the money in your mattress than leaving it in the bank.

Banks as "places to keep money secure" predate banks as "places to invest money", IIRC. If you've got $100, and the bank's interest rate is negative, stuff it in your mattress. If you've got $100,000, you might be willing to pay $250 a year to have someone else keep it in a locked guarded safe and guarantee it against robbery.

On the other hand, in the modern world there are better deals out there, if you've got enough money that keeping it secure is a problem. What was that phrase on Futurama? "My caddy's chauffeur informs me that a bank is a place where people keep money that isn't properly invested."

|7.4.09 @ 2:11PM|#

Banks as "places to keep money secure" predate banks as "places to invest money", IIRC.

Yes, but the former sense was true back when that's all banks did. In modern times, banks don't just lock your money up, they loan it out to other people. If the FDIC mirage of safety gets overwhelmed by banks losing their loan money, then your money actually may be safer in the mattress.

Tim Cavanaugh|7.4.09 @ 2:25PM|#

Me most 'eartfelt thanks to you, Mr. Scrooge. Link is fixed.

Ebeneezer Scrooge|7.4.09 @ 3:16PM|#

Tim, if I read "Sweden cuts rates to new low, offers banks loans" right, they don't explicitly have a negative interest rate, it's just below the inflation rate -- ? That's different from an actual -0.25% rate, which somehow is what I though the idea was.

I should pull out the economic rate of return formulas and try a negative interest rate. I assume the range on interest rate i isn't bounded at i=0, but I never thought about it before.

Ebeneezer Scrooge|7.4.09 @ 3:17PM|#

Anyway, this is all interesting stuff. But as an engineer I often find myself unarmed to grok international finance.

|7.4.09 @ 7:34PM|#

Credit Unions have been giving us effectively "negative interest" for years. In the presence of inflation, keeping your money in a passbook account that doesn't at least pay the going inflation rate is to lose value in your savings. Credit Unions were paying lower rates for standard savings accounts even when bank rates were relatively high. Now that the latter are in the toilet, the former are quite a way down the drain -- well into "negative interest" territory. Credit Unions seemed so ultraconservative in terms of interest rates charged and paid, that I was shocked to learn that they, too, were involved in the real-estate mortgage bubble mechanism, through so-called "central" credit unions (a couple of which were recently taken over by the government). I grudgingly put up with "negative interest" rates in the belief that, at least, my money was staying close to home and would be protected against the speculation happening in the larger financial market. How naive.

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ChrisO|7.6.09 @ 5:06PM|#

Wi nøt trei a høliday in Sweden this yër?