Global negative interest rates ended with Japan’s policy change

Berlin The Bank of Japan (BoJ) became the latest central bank to abandon the negative interest rate policy introduced following the global recession and debt crisis, as it raised interest rates for the first time since 2007.

BoJ decided to end its negative interest rate policy, which it initiated in 2016 to prevent the mostly strengthening yen from harming its export-oriented economy and to combat deflation, following significant wage increases in major corporations.

Japan ends negative rates and raises interest rates for the first time in 17 years The bank raised short-term interest rates from minus 0.1 percent to a range of 0 to 0.1 percent. With this move, BoJ became the last bank among the world’s leading central banks to abandon the negative interest rate policy, making its first interest rate hike in 17 years.

In addition to ending the negative interest rate policy, BoJ also terminated its control over the yield curve for 10-year Japanese government bonds.

President Kazuo Ueda spoke of a transition to a “normal monetary policy” targeting short-term interest rates, like other central banks.

While the return of interest rates supports stock markets, the Japanese yen surprisingly came under pressure. The dollar/yen pair rose above the 150 level.

Analysts noted that the reaction of the yen was likely a result of uncertainty, as President Ueda did not provide any indication of whether further steps would be taken or to what extent such steps could be expected.

Negative rates stimulate spending Negative interest rates, employed to combat low growth and deflation, are defined as one of the “unconventional” tools of monetary policy.

Negative rates mean that instead of receiving interest on reserves held at central banks, banks are charged interest.

By encouraging banks to lend out their reserves rather than hold them at the central bank, negative rates aim to reduce borrowing costs and increase credit demand.

Negative interest rates, when applied by central banks during periods of low inflation or economic downturns, make it costly to hold cash in bank accounts, thus encouraging borrowing and spending.

Negative interest rates, a relatively unconventional monetary policy tool, are typically employed as a temporary measure to support economic recovery or combat deflationary pressures, rather than as a long-term strategy.

Many central banks around the world have implemented negative interest rates as part of their monetary policy tools in the past, with central banks such as the ECB, Denmark, Sweden, and Switzerland maintaining policy rates below zero for some time.

Opponents of negative interest rates argue that rates below zero disrupt market price mechanisms and also narrow the margins that financial institutions earn from lending.

Monetary expansion began after the global financial crisis Following the global financial crisis in 2008, which occurred after the mortgage crisis in the United States, leading central banks such as the Fed, ECB, and BoJ transitioned to a period of monetary expansion by lowering interest rates to “near-zero” levels.

While the Fed kept its policy rate in the range of 0-0.25 percent from late 2008 to the end of 2015, other central banks decided to push interest rates below zero out of concern that deflation could drag their economies into recession.

The ECB implemented negative interest rates on reserves held by banks in the Eurozone to encourage lending and stimulate economic activity.

The European Central Bank transitioned to a negative monetary policy regime by lowering the interest rate on deposits held by banks at the central bank to minus 0.1 percent in 2014, and further reduced the deposit rate to as low as minus 0.5 percent by September 2019. The ECB ended its negative interest rate policy in July 2022.

Switzerland aimed to prevent its currency from appreciating excessively While adopting a negative interest rate policy from 2014 to 2022 to prevent the rapid appreciation of the Swiss franc, SNB reduced interest rates to as low as minus 0.75 percent.

Riksbank lowered rates below zero from 2015 to 2020 to combat deflationary pressures, while the Danish central bank lowered rates below zero from 2021 to 2022 to maintain the fixed exchange rate of its currency to the euro and manage capital flows.

BoJ joined the countries implementing negative interest rates in 2016 by lowering its policy rate to minus 0.10 percent. This week, the Bank abandoned its negative interest rate policy.

While the return of interest rates in 2022 by the Fed and ECB is being evaluated, it is now under consideration when to start the first interest rate cuts.

Criticism arose due to currency depreciation The negative interest rate policy implemented to encourage growth and combat deflation in struggling economies after the global financial crisis has faced criticism from various sectors.

Negative interest rates have been criticized for suppressing the profitability of banks and other financial institutions, leading to lower or even negative returns on savings and retirement accounts, and causing currency depreciation.

Negative interest rates, which encourage investors to turn to risky assets to earn income, have also been suggested to contribute to asset bubbles and financial instability, potentially leading to crises in the long run.

While negative interest rates are seen as a signal of deflationary pressures, they are also argued to undermine consumer and business confidence at times, prompting consumers to be more cautious about spending and businesses about investing.

Although the ECB’s negative interest rates have contributed to credit growth, they have been considered inadequate in bringing Eurozone inflation to the 2 percent target.

Ultimately, the disruptions in global supply chains caused by the COVID-19 pandemic and the Russia-Ukraine War, along with financial shocks, allowed banks to abandon negative interest rates, ending the era of low inflation.

It is not expected to significantly affect capital flows Before BoJ’s decision, concerns were raised that high interest rates in Japan could lead to large investors such as insurance companies and pension funds investing abroad, potentially withdrawing their capital, which amounted to over $4 trillion as of the end of last year, and causing negative repercussions for market stability.

While analysts view BoJ’s decision as a turning point, they suggest that because the move is small and rapid interest rate hikes are unlikely, it will have little immediate impact on global capital markets.

Analysts, who do not expect a significant change in capital flows at the moment, noted that for Japanese capital, which is largely tied up abroad, interest rates in the country would need to rise much higher for capital to return.

Collective bargaining agreements point to more price pressures Visible wage growth in Japan was a condition for higher interest rates. However, following significant wage increases reaching their highest level in 33 years, some analysts warned of the increasing risk of inflationary pressures, reminding that rising wages and prices could potentially lead to a dangerous inflationary spiral.

Despite the return of interest rates, analysts emphasized that financing conditions in Japan remain extremely loose, which could further strengthen inflation.

BoJ also faces the risk of undermining domestic demand, which it actually wants to stimulate. In Japan, 80 percent of homeowners finance their properties with loans based on market interest rates. Therefore, a sharp rise in interest rates is likely to quickly increase household repayments and thus reduce consumption.

Although many experts and investors do not expect BoJ to take new interest rate steps until July, analysts noted that even if good results come from wage negotiations, sharp increases in consumption should not be expected. They expressed that it is unlikely for BoJ to make a series of rapid interest rate hikes.

While the return of interest rates in Japan, financing conditions in the country remain extremely loose,

source: prepared by Melisa Beğiç

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