Let’s keep rates positive

Saving some money? If you’re European, it’ll cost you.

In June, the European Central Bank set its deposit rate at -0.10%, meaning it’ll charge institutions to hold their reserves. That, in theory, makes it more attractive for banks to lend the money, thereby stimulating the economy.

But Europe’s retail banks could also pass those costs to consumers through higher fees, since depositors wouldn’t accept an actual negative rate.

If fees rise, smart consumers may opt to hold cash. A handful of academics anticipated that problem and have gone so far as to propose a cashless society, which would let central banks take rates below zero without having to worry about mattress stuffers.

To avoid fees, conservative folk would have to spend or invest their money (though fixed-income returns would be paltry).

That scheme won’t work here.

Social justice issues aside (research shows up to 15% of Canadian adults don’t have bank accounts), our savings rate was a mere 4.9% in Q1 2014. We owe $1.63 for every $1 we earn.

Canada’s cash hoard

Every dollar of disbursed corporate cash creates an estimated economic benefit of 63 cents.
Domestic-held cash has only risen about $26 billion since 2008.

Q4 2008: $372 billion

Q1 2014: $398 billion
If you scale cash to GDP growth since 2008, domestic cash has actually declined $42 billion, while foreign cash increased $49 billion.

Domestic cash

Q4 2008: $372 billion

Q1 2014: $330 billion

Foreign cash

Q4 2008: $158 billion

Q1 2014: $207 billion

Source: RBC Global Asset Management

Consumers’ willingness to spend isn’t at issue. Corporate spending is. RBC calculates that Canadian non-financial corporations hoarded $647 billion in Q1 2014, or an extra $117 billion since the start of the financial crisis.

Lest that give you hope, firms largely borrowed that cash, says Eric Lascelles, chief economist at RBC Global Asset Management. “Firms are recognizing that this is a once-in-a-lifetime opportunity for cheap financing, but in many cases don’t have a clear plan for that cash.” He adds most of that hoard is foreign denominated. So “the efficacy of rate-lowering monetary policy is reduced,” he says.

As a result, negative rates are unlikely to incite corporations to spend more. Instead, they’d punish people with the foresight to save, but without the capacity for heavy equity allocations.

Fortunately, Lascelles says central banks are desynchronizing, and the Bank of England and the Fed appear poised to hike rates in 2015. “Where we once had the luxury of a single bond market,” he says, “now, yields seem to be idiosyncratic by country and even by creditor.” Advisors can take advantage of this shift to offer more options to risk-averse clients.

Nevertheless, BoC governor Stephen Poloz has hinted at a rate cut, and a recent Financial Times editorial touted the benefits of electronic currency. Still, a negative-rate, cashless Canada would do little to prod large corporations to spend on investments or new hires.

Unlike Scrooge McDuck, they’re not swimming in physical cash. Instead, such a change would unduly penalize ordinary deposit holders.

So Poloz, no negative rates, please. We’re Canadian.

“Instituting negative rates is mostly an optical move, showing the European central bank is serious.”

– Eric Lascelles

Melissa Shin is editorial director of Advisor Group.

Canadian pensions strengthened solvency in Q1: Mercer

Businesses worried about ESG fraud: KPMG poll

Private credit resilience provides opportunity for yield