SANTA MONICA, Calif., May 11, 2015 /PRNewswire/ -- In his most recent article about the never-before-in-history advent of negative interest rates in Europe and the U.S., Douglas E. Johnston, Jr., Founder and CEO of California-based Five Management, LLC advisors addresses some of the early implications of this startling new market frontier, which was not even envisioned by John Maynard Keynes, the founder of modern economic theory.
Here are a few paraphrased excerpts from Johnston's article:
While US market observers remain focused on the timing and magnitude of the Fed raising interest rates in the months ahead, European bond markets have recently begun to experience just the opposite phenomenon. After first appearing in late 2014, negative interest rate bonds have already assumed over $2.2 trillion of European government bond issues, including over 70% of bellwether German bonds, and there are indications they may spill over into US markets.
On the surface, negative interest rates represent a confusing and counter-intuitive 'new math', which can be difficult to grasp. Stated plainly, at least $2.2 Trillion of European bond investors are now paying for the guaranteed right to lose principal, and to receive back less than they have invested. This highly unusual scene seems to tell us that at least some sophisticated institutions are perhaps embracing the loss of some principal by investing with various sovereign governments, rather than face the loss of even more principal by making other types of investments.
Viewed from a slightly different but equally important commercial bank perspective, negative rate monetary policy also carries the subtle but direct effect of encouraging more aggressive commercial bank lending activity to businesses. Bank lending to businesses has long been regarded as the grease of the wheels of commerce and growth since the days of Adam Smith. Negative rates serve inherently to penalize commercial banks which do not lend, or at least which do not lend to businesses in sufficient volumes to promote desired growth. As such, negative rates may be addressing the generally flatter volume of business loans in Europe and the US over the past five years, as compared to the BRICS countries and other higher-growth economies.
Going one step further, the new paradigm of negative interest rates appears to carry the implicit, if not actually explicit, support of senior central banks and regulators, and in a way which runs counter to the past 30 years of risk-averse global bank lending guidelines. As one top central banker noted: "An experiment is under way in continental Europe to test the 'boundaries of the unthinkable' in monetary policy…The main aim of an ultra-low interest rate policy is to deter saving and encourage borrowing." Should this new monetary regime take hold in the US, it will affect major metropolitan banks and local community banks alike, who will be encouraged to step up their level of loans to businesses significantly, or otherwise to absorb market penalties. The new monetary model of negative interest rates, if it continues, will likely produce other emerging shifts as well in a dynamic global financial environment.
To read the full article, click on: http://www.fivemanagement.net/the-new-frontier-of-negative-rates-and-banking/.
About the Author:
Douglas E. Johnston, Jr. is a financial expert witness and global banking and business advisor with Five Management, LLC. He is a former US bank President who later became EVP-Finance & Administration and a 'Founding Father' of Platinum Equity, LLC, the largest private company in Los Angeles. He has lived and worked across the US and Europe, and lives in Los Angeles.
SOURCE Douglas E. Johnston, Jr.