Bank warns ‘get ready for negative interest’

When money dies: In Zimbabwe, a wheelbarrow-load of cash might only buy you a loaf of bread © G.A. Hussein

Is this the end of money? The Bank of England is considering negative interest rates for the very first time – in theory this means that the banks could pay you interest to take out a loan.

Each morning, Marianne Hove goes to one shop, and her husband goes to another. When they arrive, they ring each other and start comparing prices. They have to move fast: the prices are rising as they speak. She buys the goods that are cheaper in her shop, and he buys whatever is cheaper in his. Then they both rush to the checkout – the prices may have risen again by the time they get there.

Marianne lives in Zimbabwe, where the rate of inflation is currently more than 600% . This is actually a kind of stability: in 2009, it reached 79.6 billion% per month.

Some people are worried that this may soon happen in other countries. They think that currencies all over the world may be near collapse, and that negative interest rates could send them over the edge.

Yesterday the Bank of England suggested that it might lower its interest rate below zero per cent for the first time in its history. This means that you would have to pay the bank to hold your money, and it would pay you to take out a loan .

This would turn the banking system on its head. Normally, customers are paid interest to keep their money in the bank, and charged interest to borrow.

Central banks use interest rates to manage the economy. If rates are high, then people have an incentive to keep their money in the bank because they will make a profit just by leaving it there. If interest rates are low, however, they can make more profit by investing it.

As such, interest rates effectively control the “cost” of money. If rates are high, then money is worth more, and people save it. If they are low, then money is worth less, and people spend it.

This creates a dilemma. If interest rates are below zero, then the cost of money is also effectively negative. Yet money is only valuable if people accept it in exchange for goods and services. For that, everyone must be confident that it will keep its value over time.

Some people believe that negative interest rates could make people lose confidence in money, causing its value to drop sharply.

That could be a disaster if it affects certain key currencies. Economist James Rickard points out that the value of most currencies around the world is linked with the value of the US dollar. If the value of the dollar falls suddenly, then other currencies could collapse, forcing people to resort to a barter system.

Rickard argues that the only way of securing the value of a currency is to link its value with gold: a system known as the “gold standard”. That way, people maintain confidence in its value.

But others argue that the value of the dollar cannot drop suddenly because the dollar is the international standard of value. If everything is valued in dollars, the dollar’s own value cannot change: one dollar is always worth one dollar.

Supporters of negative interest rates point out that they are really nothing new. Switzerland first started using negative rates in the 1970s, while Denmark, Japan, and the Eurozone have adopted them more recently.

But could this be the end of money?

To coin a phrase

Yes, say some. They argue that central banks have lost control of currencies and the economy. They are worried that the global economy is too precarious, and the whole money system might collapse. Some think that since alternative currencies like Bitcoin – which are not controlled by central banks – can now be used instead of ordinary money, centralised money systems may become obsolete.

No, say others. Money has always been surprisingly flexible. Before coins and banknotes were widely available, people created their own money simply by exchanging “IOU” slips indicating how much one person owed another. When countries suffer hyperinflation, they rarely abandon money: either they issue new money, or they just use another country’s money, usually the US dollar.

You Decide

  1. If no money, as we know it, existed, what would be the best substitute?
  2. The Bank of England is independent of the government: no minister has any influence over its decisions. Should economic questions be left to specialists, or should there be democratic control over the bank’s interest rate?

Activities

  1. You are going to set up a barter system with the three people closest to you. Without using any money, try to trade the items you have on your desk with the others. See who can cut the best deals.
  2. Write a letter to your local newspaper supporting or opposing the introduction of negative interest rates.

Some People Say...

“What is the robbing of a bank compared with the founding of a bank?”

Bertolt Brecht (1898–1956), German playwright

What do you think?

Q & A

What do we know?
Most people agree that money has existed for almost as long as human societies have. The use of precious metals, like gold, silver and copper, to create coins arose independently in the ancient Greek city of Lydia (in modern-day Turkey), and in China. Metal coins became increasingly widespread in Europe and east Asia. Other societies, mostly in Africa and southern Asia, used cowrie shells as currency for much of their history.
What do we not know?
There is some debate over what would happen if we did not have money. Some argue that without money, the only option is a barter system, in which one item is directly exchanged for another of similar worth. But the anthropologist David Graeber argued that barter systems are historically very rare. More commonly, when a people does not use money, they simply give each other items according to their need, in the expectation that they will receive something back when they themselves are in need.

Word Watch

Bank of England
The central bank of the UK. Like other central banks around the world, it tries to stabilise the economy by keeping down inflation and offering loans to struggling banks.
Interest rate
The amount that a bank pays a customer to deposit their money in their bank account. Commercial banks deposit money with the central bank, so the higher the central interest rate, the more money they have to pay in interest to their own customers, and vice versa. As a result, commercial interest rates usually follow the central bank’s rate.
Barter
The direct exchange of goods. Usually, when we buy and sell things, we use money as an intermediary: you might make a pair of shoes, sell it for money, and then use the money to buy a coat. In a barter system, however, you exchange the shoes directly for the coat.
Gold standard
A system in which the value of a currency is made equivalent to a certain value of gold. Gold’s value does not change very much, so currencies on a gold standard usually experience little inflation; however, they can cause deflation by limiting the amount of money in the economy.
Eurozone
All the countries of the European Union that use the euro as their currency.
Hyperinflation
Inflation that reaches more than 50% per month. In such conditions, money quickly becomes worthless, and people simply stop using it. Instead, they produce their own goods and barter them directly for other goods.
Bitcoin
A virtual currency that is “mined” using computers. Bitcoin was inspired by the idea that currencies’ value should not be controlled by central banks. In truth, however, its value has fluctuated much more wildly than that of most centralised currencies.

Subjects

PDF Download

Please click on "Print view" at the top of the page to see a print friendly version of the article.