The human behavioural reaction to low and negative interest rates

One of the topics discussed at a recent meeting of the international GAPS Network group of pension experts was the financial reaction of people in those countries that are currently experiencing negative interest rates.

Economic theory suggests that lower interest rates pushes consumers towards spending more because the economic benefit that they can draw from immediate purchases is greater than the long-term benefit of saving with a low/negative interest rate and purchasing later. Krista Woodman of Smith & Williamson, a UK network member, said “Negative interest rates are currently the most advanced form of economic stimulation and in theory should discourage saving and encourage spending. Their prolonged and widespread use is new and only time will tell whether they will change behaviour significantly enough in those countries where they have been piloted. The local reaction to negative interest rates may depend on culture as much as financial theory.”

Dr Wolfgang Ettl, whose company operates in Austria, Germany and Switzerland, all of which countries now have negative interest rates said that a more common reaction is for people to save more because the negative interest rates generate fear for the long-term.

Andrew Reid-Jones of Quantum Advisory, a UK member of the network, suggested that there is a zone of effective interest rates – outside of which the impact drops substantially and the economic effect can be counter-intuitive. This might be because classic economic theory is wrong or because the traditional transmission mechanisms have been corrupted (e.g. through the need for banks to hold more cash, thus restricting supply).

Mike Yates of Michael F Yates & Co, US member, said that savers are driven by different objectives and emotions and that it is likely that different generations will react differently to negative interest rates. Those who are advanced in their careers or who have already retired may feel the need to save more because their retirement funds will generate a lower yield to draw from while those embarking on their careers may also need to save more in the first instance to fund a down payment on a home – because asset prices are typically increased during periods of low/negative interest rates. For those commencing their careers, retirement saving is a distant concern.

The only segment of the population that can truly afford to spend more on the back of low interest rates are those in mid-career who have already purchased a home and where retirement is still some time away.

The conclusion of the GAPS Network meeting was that some of the tools available to policymakers are not generating the expected responses and that altering current interest rates from their current levels of c. 0% in Europe may not help boost the European economy.

Posted in Uncategorized.

Leave a Reply

Your email address will not be published. Required fields are marked *