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Canada's negative interest rate policy option
December 8, 2015
12:36 pm
Brimleychen
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December 8, 2015
12:50 pm
Peter
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If we take what Stephen Poloz said at face value, that's a misleading headline. He said: "The bank is now confident that Canadian financial markets could also function in a negative interest rate environment" but also "Today's remarks should in no way be taken as a sign that we are planning to embark on these policies. We don't need unconventional policies now, and we don't expect to use them. However, it's prudent to be prepared for every eventuality."

Ref: http://www.cbc.ca/news/busines.....-1.3355704

December 8, 2015
1:06 pm
Brimleychen
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Peter said

If we take what Stephen Poloz said at face value, that's a misleading headline. He said: "The bank is now confident that Canadian financial markets could also function in a negative interest rate environment" but also "Today's remarks should in no way be taken as a sign that we are planning to embark on these policies. We don't need unconventional policies now, and we don't expect to use them. However, it's prudent to be prepared for every eventuality."

Ref: http://www.cbc.ca/news/busines.....-1.3355704

I agreed with you, Peter.

But at least I know 'negative' interest rate is in this talking head's mind already. It's PRUDENT for us also preparing itsf-surprised

December 8, 2015
3:25 pm
Loonie
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I must admit to some confusion about this.
Not being a financial wiz, I can't be sure what is meant by "financial markets", but the one referred to is money market funds. He seems to be saying that their minds have changed in regards to them. They pay next to nothing anyway, so I don't know what it would mean to say they "couldn't function" in a negative interest environment. I presume it means MMF returns could be negative. So? Does that mean they don't "function"? Does "function" mean to provide income, however minimal? But now he htinks they could "function". Does that mean they could still produce some small profit or that a negative return would be OK?

In any event, I don't see the connection between this and the comment that they wouldn't likely go to this extreme measure.

I hope somebody can explain.

December 8, 2015
3:57 pm
xxxx
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I will try to make it simple - others will likely add their opinions
As a stimulative measure (to get the economy moving / "kickstart") it means that BoC might drop its central interest rate more which could approach 0 or even less than 0 which is the "negative" part - this permeates through the financial markets and has an effect on all interest rates (reducing them) - saving accounts, GICs, bonds, loans, mortgages etc. - int rates all drop to even lower levels - what happened in some European countries is that banks do not pay interest on bank accounts but charge the depositors interest as a service for holding one's money in a bank - like a custodian fee.

It is not a positive for investors trying to earn interest - if interest rates on GICs become almost 0. The purpose of this stimulative measure is to get people and businesses to borrow, spend to expand and consume - in the hope of kickstarting the economy. It appears to be consistent with the Liberal govt approach of deficit spending in the next few years to get the economy moving - the downside is how big a deficit will result and how that will be dealt with down the road.

The other effect would be a drop in the value of the Cdn $ - which supposedly helps the Cdn export industry because our exports become cheaper to US and foreign countries.

December 8, 2015
7:48 pm
Norman1
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Loonie said

I must admit to some confusion about this.
Not being a financial wiz, I can't be sure what is meant by "financial markets", but the one referred to is money market funds. He seems to be saying that their minds have changed in regards to them. They pay next to nothing anyway, so I don't know what it would mean to say they "couldn't function" in a negative interest environment. I presume it means MMF returns could be negative. So? Does that mean they don't "function"? Does "function" mean to provide income, however minimal? But now he htinks they could "function". Does that mean they could still produce some small profit or that a negative return would be OK?

In any event, I don't see the connection between this and the comment that they wouldn't likely go to this extreme measure.

I hope somebody can explain.

I think those refer to concerns described in the Bank of Canada staff discussion paper The International Experience with Negative Policy Rates published last month.

This is from page 6:

Financial Markets

Another commonly cited concern is that with negative interest rates, money market funds would be unable to deliver attractive returns while remaining safe and liquid, prompting large outflows and closures, and reducing liquidity in a key segment of the financial system.

In terms of insurance and pension funds, a low-for-long interest rate environment poses challenges, which would be exacerbated by negative interest rates.12 Duration mismatches could be compounded by negative investment spreads, if yields on long-term bonds fall below investment returns that have been promised to policy holders. Such challenges have prompted concerns that by squeezing returns, negative rates could incent financial institutions to take on inappropriately risky assets. A more aggressive search for yield could in turn contribute to financial imbalances through excessive asset price valuations and weak credit standards.

Lastly, risk management may be affected in a world of negative interest rates, since implied and realized volatility around zero interest rates may be higher than risk models suggest, given risk aversion, and most option pricing models either do not work or do not work well with negative interest rates.13

There was also concern that some financial computer systems may not handle a negative interest rate on a bond or note. Sort of like what happened to gas station price signs when gasoline prices went above 99.9¢ per litre:

Operational issues

There are a number of operational issues associated with negative rates, particularly ensuring the compatibility of trading systems and other market infrastructure. Areas that have been cited as concerns are interest-bearing securities, particularly floating-rate notes (renegotiating, collecting interest, use as collateral) in the context of negative interest rates.14 Addressing these issues could entail transition costs.

December 8, 2015
11:02 pm
Loonie
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thanks.

re: computers. It seems ominous to think that they have now retooled so as to be able to accommodate negative rates. Obviously this prospect has been on the agenda for a while.

It seems they are talking about MMFs as tools for the industry more than for individual investors. Certainly I personally have no use for them. As I understand it, they are mostly made up of government bonds. If rates are negative, presumably there would be little interest in buying the bonds or the MMFs. But it has to rest somewhere; They can't just put it in the toes of their socks.

It seems, then, that negative interest rates would create a kind of jumpiness amongst all concerned. Large pension plans, normally a bedrock if properly managed, could find themselves unable to keep up - and retirees then suffer. Even defined benefit plans have tools that enable them not to keep up with inflation etc.

It's hard for me to imagine more interest rate refugees than what we already have. If people do run to the stock market to grab what they can in hope of higher yields, then that would suggest a very nasty bubble on top of everything else. And bubbles lead to crashes.

I foresee a start-up in bricks-and-mortar non-banks, very secure facilities where people store their wealth because they don't trust banks and regulators. However, fear of money-laundering makes it difficult to put it back into circulation when the time is right. Driving everything underground is not a good thing, but it happens when people lose confidence. (Maybe gold will finally see a comeback!)

It's hard to see where all this goes.

I know it has been mentioned before that some other countries are already in this fix. How are they making out? I recall that somebody mentioned Switzerland a while back. It's hard to imagine the Swiss doing anything intermperate.

They say we got over the 2008 disaster, because the stock market went up again eventually. But interest rates have never recovered, at least not here. And now they have a concern that if they get even worse, that people will jump into ill-considered stocks in desperation.

We've got a lot more to worry about than our TFSA limits.

What do people think is "prudent" for individuals, given this situation? It sure doesn't make me want to spend money, which is what the economy apparently "needs" me to do. And there is still a lot of money "sitting on the sidelines" as Brian pointed out. Where does it go?

December 9, 2015
8:11 am
fabafter50
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So what does the retiree that has money to invest do? Lock it in to a GIC now?

December 9, 2015
10:46 am
kanaka
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December 9, 2015
11:27 am
Bill
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The fact that negative interest rates are happening elsewhere and may happen here just shows how historically unprecedented a situation we have these days around the world. It's fascinating to me how casual people and policy makers are about their use, as if the world will just go on as before, we'll just have negative interest rates. For me, I'm not paying someone to let them have my money, I'd rather cash out my GIC and savings accounts and stuff a safety deposit box or two or maybe bury it somewhere on the family cabin property.

December 9, 2015
11:49 am
kanaka
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Bill said

The fact that negative interest rates are happening elsewhere and may happen here just shows how historically unprecedented a situation we have these days around the world. It's fascinating to me how casual people and policy makers are about their use, as if the world will just go on as before, we'll just have negative interest rates. For me, I'm not paying someone to let them have my money, I'd rather cash out my GIC and savings accounts and stuff a safety deposit box or two or maybe bury it somewhere on the family cabin property.

Lol. Thinking the same. But from what I hear less folks have safety deposit boxes and I don't think the banks could meet the demand.

Just thinking with simple math. If we are at +.5 right now and can get +1.8 on savings accounts and +2.5 on a 5 yr GIC wouldn't -.5 give us +.8 on savings and +1.5 on a five year GIC?

The banks will have cheap loans to stimulate expansion and the economy but will still be charging interest.

And we all know the big 5 are short changing us. Will their philosophy change to be a "little less" greedy? (I know, I doubt it)

December 9, 2015
2:14 pm
Bill
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kanaka, I was told by a teller at my bank one day that they don't really like the safety deposit boxes anymore, younger folks don't really use then, plus the bank doesn't really make any money off them (I'm there probably once a month making them take time to let me in, etc) but they won't take them away from existing customers. We've got 2 large ones in our family as part of our bank accounts package deals, should be enough space - I'm not a politician having to make regular cash deposits to my box! But if anyone doesn't have one yet and might want one in the future it might be an idea to get one now.
And very low interest rates for a very long time have done nothing so far, so in this Alice in Wonderland rabbit-hole world what happens if -.5% doesn't work? Do we then go to -1%, or then to -5%, and so on? This is something other than the "normal business cycle".

December 9, 2015
4:20 pm
Ed
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Bill said
I was told by a teller at my bank one day that they don't really like the safety deposit boxes anymore, younger folks don't really use then, plus the bank doesn't really make any money off them (I'm there probably once a month making them take time to let me in, etc) but they won't take them away from existing customers. We've got 2 large ones in our family as part of our bank accounts package deals, should be enough space - I'm not a politician having to make regular cash deposits to my box! But if anyone doesn't have one yet and might want one in the future it might be an idea to get one now.
And very low interest rates for a very long time have done nothing so far, so in this Alice in Wonderland rabbit-hole world what happens if -.5% doesn't work? Do we then go to -1%, or then to -5%, and so on? This is something other than the "normal business cycle".

I understand from what I've read about countries that already have negative overnight interest rates, banks in places like Sweden have run out of safety deposit boxes and customers are stuffing their microwaves with cash.

December 9, 2015
4:38 pm
Loonie
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Ed said
I understand from what I've read about countries that already have negative overnight interest rates, banks in places like Sweden have run out of safety deposit boxes and customers are stuffing their microwaves with cash.

There's nothing like the feel of a "crisp" $100 bill in your hand!sf-wink

Seriously, though, hiding your cash under the mattress is only going to lead to later problems with the anti-money-laundering act. Not to mention the run on the banks when you try to get hold of all this cash. No wonder the chief economist at CIBC wants us to think this is business as usual (Moneysense article cited above by kanaka). "Soft landing" theory well underway.

December 9, 2015
5:58 pm
Bill
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I can see an increase in home invasions and burglaries. And I wouldn't keep cash in a building, they can burn down.

Loonie, stuffing money in a safety deposit box won't lead to a run on bank money when you later go get some of it, it's not bank money. Plus they don't even know what you're doing when you access your box. But that bit about anti-money laundering act is interesting - how would getting $500 of my legally-earned own money out of my SDB every week or so run me afoul of the law? Whether I keep it under my mattress or in a SDB is just a choice of where I store it, it's my own capital. I remember Brian Mulroney forgot to report as income $300,000 cash he received in hotel rooms and then put in his SDB, don't recall any money-laundering charges. (It just hit me - banks are buildings and can burn down too. Looks like best option is burial.)

December 9, 2015
7:18 pm
Loonie
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The run on the bank would occur if you wanted to take out large amounts of cash to put it elsewhere. Only last week I had difficulty getting an amount under 5K from TD in cash because I didn't order it ahead. In the end they gave it to me. I just wanted to walk it across the street to meet an automatic credit card payment going through another account and didn't have time for cheques/transfers to clear.

No, the money-laundering laws aren't an issue when you take the money out of your account. I'm thinking ahead to when the economy has settled down and you want to re-deposit it. That's when you have to account for where the money came from if a significant amount. It might be hard to prove.
but by then, who knows what else may have changed? Currency could have been significantly devalued or re-issued somehow. Look at what has happened in other countries, although usually due to inflation.

It's impossible to hide money in TFSA/RSP etc. That's where people might end up making poor investments, because they have to keep the money in an institution.

Would you really consider burying your money, or are you just indulging in a bit of fantasy? It would take a year, at 500/bankingday, to move 100K, and then you have to go and bury it every so often. I'd be afraid of some critter, on 4 legs or 2, digging it up!sf-frown

I guess this is the point at which the extremely wealthy buy valued works of art. Of course, they've been doing it all along. There's a lesson in that, and it's not just about diversification per se. I note the art market does not seem at all depressed, judging by various recent reports of record-priced art auctions.

December 9, 2015
7:49 pm
Norman1
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fabafter50 said

So what does the retiree that has money to invest do? Lock it in to a GIC now?

Do nothing different. Negative Canadian interest rates are not on the way.

All Governor Poloz did was update a statement made in 2009 that the theoretical floor for the Bank of Canada rate was +¼%. That theoretical floor is now around -½%, should there ever be a need to lower interest rates that much.

Peter, I think the title for this discussion should be changed to something like "Bank of Canada may use negative policy interest rate as an emergency tool."

I don't think this site should propagate that sensational but baseless headline from that blogger suggesting that Canadian interest rates are going to drop below 0%.

Just because two people are talking about going on their first date together doesn't mean they are heading off to Vegas next month to get married!

December 9, 2015
7:53 pm
Bill
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I'm not really thinking about disaster or crisis situations (yes, in those cases folks buy art or cars or whatever), I just meant if I had to start paying a fee to keep my money in my accounts instead of them paying me interest darned if I'm paying them to store my money, I'd take it out and stuff it somewhere like my SDB or in the woods (in a metal box, just have to remember what darn tree I buried it near!). You'd advise them ahead of time you want your $100,000 and it might take a few days but you'd get it out. And if I wanted to put it back in when things improved and they asked me where I got it, I'd show them my records from when I took it out. Anyway, we Canadians might have to get some tips from folks from other countries where they're used to currency crises if it come down to it, though hopefully these ruminations are just for fun!

December 9, 2015
8:11 pm
Norman1
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Page 13 of that Bank of Canada discussion paper The International Experience with Negative Policy Rates describes the experience in Switzerland. Secure handling and storage of cash would cost about ½% per year:

While the year-over-year growth of currency in circulation has picked up following the lows of last year, cash hoarding per se has not been observed (Chart 10). There have, however, been a number of highly publicized attempts to avoid negative interest rates, including a Swiss pension fund that tried to withdraw cash and store it in a vault, saving 25,000 francs per 10 million francs after storage and handling costs (implying that these [storage and handling] costs run about 0.5 per cent per year).

December 10, 2015
8:42 am
Brimleychen
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I must admit the heading is a bit exaggerated. But every time when this talking head opened his mouth, our loonies would be down a few cents. Our living standard will be going down the drains at the same time, because he still was at the mentality of EDC of which talking down our dollars are his primary mission.

Poloz spawns negative headlines on interest rates: Don Pittis

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