Here Dr Emma Black, MD of Cascade Cash Management, reassures Northern Insight readers...
What are Negative Interest rates and what do they mean for savers?
In 2008, the Bank of England reduced the UK’s Bank Rate to a historic low of 0.50%. Intended as a temporary measure, economic challenges since have prevented the Monetary Policy Committee (MPC) from being able to meaningfully increase interest rates over the last twelve years. At the start of the year, Boris Johnson won approval for the terms of the UK’s withdrawal from the European Union and markets anticipated a series of rate rises over the coming years. Talk of a new virus coming from the Far East gradually increased throughout February and markets began to price in global supply chain disruption. Little did anyone realise the extent of the impact this virus would exert on financial markets, not least for savers.
With Lockdown 1.0 came a series of social restrictions, economic support packages and two cuts to the official Bank Rate on 11th March and 19th March to a record low interest rate of 0.10%. Speculation that the Bank Rate could be lowered further has simmered since with further fuel added in October 2020 when the Bank of England wrote to financial institutions seeking to understand their operational readiness should a negative official Bank Rate require implementation. While Governor Andrew Bailey has stressed their use is not an inevitability, he has indicated that they are within the toolbox. So why are negative interest rates under discussion and what does it mean for your savings?
The idea of negative interest rates is counter-intuitive when we consider the fundamental rules of banking. When normal conditions prevail, savers should receive positive compensation when they invest into a bank’s deposit suite while borrowers should pay a reasonable interest rate on loans received. But when normal conditions don’t prevail, as we have all endured in 2020, then the normal rules of banking may not apply.
Negative interest rates have not been used before in the UK but have been employed elsewhere in Europe and Japan. Switzerland’s interest rate currently sits at -0.75% and Denmark’s is at -0.60%. The European Central Bank has held interest rates at -0.50% since 2019 and over in Japan, the current deposit rate is -0.23%, up from a record low of -0.51% in 2016.
Turning interest rates negative is built on the notion that lower interest rates will encourage the lending activity of private banks while also reducing the value of the country’s currency thereby making inward investment attractive providing support for the country’s export market too. The lower the interest rate in a country, the cheaper it is to borrow incentivising stronger spending today as opposed to tomorrow and so this helps in theory to stimulate the market. Households and businesses tend to increase the amount they borrow in such an environment and lower rates on savings incentivises people to invest as opposed to save.
Over the past decade, interest rates have remained low to support spending and jobs here in the UK but the coronavirus outbreak has served to further disrupt the market exacerbating the pressures on the economy. Critics of negative interest rates say that they serve as a tax on the banking sector denting profits and reducing financial resilience. Savers undoubtedly lose out as rates on cash would fall to further all-time lows and many economists believe that low productivity growth in the UK is also as a result of prolonged near-zero interest rates since 2008.
Our view is that savers should prepare for near-zero returns on cash for an extended period. While it is arguable whether or not negative interest rates will be called upon, it is expected for the base rate to remain between zero and 0.10% for the foreseeable, at least until markets have stabilised. The prospect of a vaccination programme will certainly help market confidence, and this in turn may postpone any decision for the Base Rate to move into negative territory.
We also feel that while rates will be low, rates circa 1.00% should likely continue to be available from some of the challenger banks. These providers tend to have healthy net interest margins and often lend into niche categories. While they will likely not entirely overshoot the market so as to stem their inflows, we do feel that opportunities will remain in this space. New providers, such as Zopa Bank and JN Bank, continue to enter the market and we feel that they will continue to need to offer positive returns for savers to be incentivised to move away from the comfort zone of the big six providers.
It’s important in this climate to ensure that you remain aware of the rates you are earning while you are in cash. Professional cash management helps for you to keep this awareness so do let us know should you have any queries that we can be of assistance in answering. Dr Emma Black, and her team, specialise in delivering an independent and transparent cash management service created to generate enhanced cash returns and increased protection on deposits through a unique online portal.
The Cascade team of eleven administer cash savings on behalf of clients and depositors, who can also use the online portal to administer their own savings. Partners including IFA’s, solicitors, attorneys, accountants and many more, can also self-brand.