April 12, 2016

Negative interests make you need deflation to balance your social security plans.

Sir, you mention that “José Viñals, a senior IMF official, has warned that negative rates could become more damaging for society the longer they persist, undermining the viability of life insurers, pensions and savings vehicles.” “Negative rates may be nearing a political limit” April 11.

Of course it does that. More than a decade ago, as an Executive Director of the World Bank I frequently objected to all those documents on Social Security System Reforms that assumed pension funds to obtain real rates of return I felt were unrealistically high for the long term. And to achieve those returns in an environment of negative interests, how much deflation might you need? Clearly, negative interests do not lead to something good.

You write: “Opponents of negative rates need to spell out the alternatives”. But Sir, that is precisely what I have done, in those hundreds of letters that you for whatever internal reasons decided to silence.

And so here it comes again. You mention that negative interests are — “intended to encourage… banks to lend more to the real economy”. But it is not only a question of more lending but also of correct lending. And the risk weighted capital requirements for banks impede these to allocate credit efficiently to the real economy.

How? Again: by allowing banks to leverage more on “safe” assets than on “risky”, the expected risk adjusted returns for safe assets will be higher than those of risky assets, and so banks will lend too much to “the safe” and too little to “the risky”.

And so in order for negative interests, QEs or any other monetary concoction to work, that regulatory distortion needs to be eliminated. Capisci?

@PerKurowski ©