A negative interest rate is a phenomenon in which interest on an account drops below zero.
When you open a savings account in a bank, the bank offers you a specific sum for depositing money. It is called interest.
But the question is, do interest rates dip into negative territory? If it does, how does it affect the overall financial stability?
Let’s first explore negative interest and its impact in detail.
What is a Negative Interest Rate?
A negative interest rate is a phenomenon in which the interest dips below zero%. It can be because of:
- Yields on bonds
- Negative Treasury securities
A bank account above zero grows as interest grows, but in case of a negative interest rate, the bank could charge interest rate and decrease the balance.
LOW-INTEREST RATE = LOW EXCHANGE BID
What is the purpose of Negative Interest Rates?
The purpose of negative interest rates is-
- Punishing the borrowers who borrow without worrying about penalties.
- It is given to borrowers to invest, lend and spend money rather than keep it safe.
- Pushing inflation back
- Devalue a country’s currency
- Stimulating a credit flow and encourage the risk-taking abilities of consumers and investors.
According to Bloomsburg, “Sweden began dipping below zero in 2009 and became the first country to ease the pain on the lenders by reversing the bid.”
How does a negative interest rate work?
Central banks are in charge of commercial banks. If the interest rate cuts below zero, that implies that the central bank can charge commercial banks’ interest on that amount. The commercial banks, owing to this, cut their interest rates and charge the customers the same amount of money to pay off debts.
This incident encourages the banks to –
- Pay loans at low interest rates
- Help businesses to invest more with cheaper funding investments
- Encourage households to save less and or borrow to spend more
How Does Negative Interest Rates affect your finances?
As for the ageing population, the demand to spend more and borrow more is likely to fall on deaf years. Retired professionals will be more likely to reduce their spending owing to the fixed saving targets.
On the flip side, there is always someone seeking dropped interest rates to fulfil his/her investment aspirations.
Here is how negative Interest rates could affect your finances-
1) Impact on Mortgage
With a fixed mortgage, the effect of a negative interest rate is nil. An expert has put his views on in a fixed mortgage. The borrowers would be more inclined towards calculating the benefits of switching to a new mortgage rate. It is set against the early repayment charges they are already on.
For example, borrowers may think about refinancing to a variable rate from a fixed one. Doing so will help them outweigh the repayment penalty.
If the base rate is cut, a mortgage linked to a lender’s standard variable rate may suffer a loss. This drop is likely to be affected by the terms and conditions.
Example: With a base rate of 0.1% and the lender offering 1% interest on the top, the borrower’s interest rate would be 1.1%. Moreover, if the base rate falls to – 0.25%, the rate on the tracker mortgage would be 0.75%. While the money isn’t free for the borrower, it implies lower monthly mortgage payments.
2) Impact on house buyers arranging a mortgage
With more money available to borrow from banks, the mortgage may get cheaper. In such a situation, lenders could increase the margins on a new mortgage. It implies the percentage you pay will be higher than on current deals. It will make lenders imply a limit on terms and conditions. They do so to prevent borrowers from chasing extra benefits.
3) Impact on savers
If a central bank implements negative rates, it will encourage borrowing and more spending. Eventually, it will help the economy prosper.
The savers should look forward to fixed-rate savings or consider other options like premium bonds.
A safe saving account is ideal for save investing in stocks.
4) Impact on credit card debt, personal loans and overdraft
A negative interest rate will have little or no impact on credit card debt, personal loans, or an overdraft. The borrowing costs will remain unchanged as the lender’s own interest rate and charges continue to be the same as before.
Credit cards will continue to charge high for overdue payments.
5) Impact on Current account
According to experts, charging on a current or standard bank account could change in case of imposing negative interest rates.
According to THE TIMES, “HSBC made charging on current accounts public on October 27, 2020. The bank witnessed earnings hit amid declining interest rates. It was considering alternative ways to cover-up for the loss.”
Will You Lose Your Money with Negative Interest rates?
Your bank may be undergoing a crisis or has set a negative interest rate on a savings account. The chances are that you may lose the money that you are paying to hold your money. If the interest rate is lower than inflation, the savers may lose money.
What will happen if the rates go up again in the UK?
- Would it lead to a mass withdrawal of funds?
- Can a negative interest rate be compensated with a fee income?
- How will risk appetite structure change?
- Will terms and conditions for different accounts change?
The future is unpredictable. However, negative interest rates are a possibility. The countries should understand the planner customer pricing. They should also do so on the impact of negative interest rate imposition on consumer behaviour.
In such a situation, taking out loans for bad credit with no broker and direct lenders should be applied. It is after being thorough with the terms and conditions.
Revising fiscal policies for maintaining cash flow in the economy can help in:-
- Upgrade markets
- Promote abundance in nearly every arena, and
- Reduce unemployment