tomorrow Canada's central bank makes its
next interest rate announcement in
December the governor of the Bank of
Canada floated the idea that if
conditions warrant 'add the bank could
consider moving interest rates into
negative territory economist Jim
Stanford explains I am holding a recent
report from the Bank of Canada Canada's
central bank the title is a mouthful
framework for conducting monetary policy
at low interest rates but the content is
pretty dramatic the report lists several
things that the bank could do if Canada
experienced another economic meltdown
and the way things are going these days
that's certainly a possibility one of
the proposals the bank makes is quite
surprising in the event of a recession
they would cut interest rates no
surprise there but because interest
rates are so low already in fact they're
almost zero if they work to cut them
further they would actually push the
interest rate below zero into negative
territory so what are negative interest
rates anyway well think about how
borrowing usually works you go to the
bank and you borrow some money let's say
$100 and you're going to keep the money
for a certain period of time let's say
for a year after the year you go back to
the bank give back the money that you
borrowed but that's not the end of the
story you also have to pay interest on
your loan so let's say the interest rate
was 1% just to keep the math simple you
owe them another dollar and that's the
cost of borrowing the hundred dollars
for the year
that's how interest rates usually work
but what about negative interest rates
okay here's what happens I go to the
bank I borrow the same money the same
hundred dollars I keep it for the same
period of time for a year and then I pay
it back to the bank at the end of the
year but guess what now the interest
rate is negative let's say it's minus
one percent that means the bank gives me
the loonie as negative interest on the
loan instead of me paying for the money
that I borrowed so I actually made money
just by borrowing from the bank
and then paying it back this unusual
situation in a way is an unintended
consequence of many years of low
inflation policy that the bank itself
has followed they have succeeded in
wrestling inflation to the ground we've
had very low inflation 2% a year or even
lower for many years there's benefits of
that but there's also some costs and one
of the drawbacks is if the economy
enters a very weak period the Bank of
Canada doesn't have much room to cut
interest rates before they hit zero in
economics that problem is called the
zero lower bound so an example we
entered a major global downturn in 2008
our interest rate was four point five
percent at that time the bank cut it and
cut it and cut it today it's only 0.5
percent but guess what the economy is
still very weak so if they want to
stimulate more borrowing by businesses
or consumers now they think they'll have
to push interest rates below zero hence
we get negative interest rates but can
the average consumer really benefit from
this here is the catch
like most everything else in the
financial world how things work for the
average consumer is quite different from
how they work for the banks and the
brokerages and the other big players on
base tree for average consumers we will
never experience negative interest rates
we will never be paid to take out a
mortgage or to take out a car loan but
we'll never have the credit card
companies giving us money for borrowing
negative interest rates are intended for
a different type of borrowing big banks
borrow billions of dollars from each
other all the time even for very short
periods of time like overnight the
system is called interbank lending and
it's that type of lending that would
benefit from negative interest rates as
envisioned by the Bank of Canada I don't
think the impact of negative interest
rates will be very large for several
reasons first of all average consumers
are not going to get negative interest
rates their interest rates may come down
a bit but remember interest rates have
already been very low for many years and
there's only so much borrowing that
businesses and consumers can take on the
bigger problem in our economy is an
unwillingness to spend for
particularly in the business community
because they're worried about the future
so in short you can't push money into
the economy by cutting interest rates
you need a pull factor you need
businesses or consumers who are willing
to take that money and spend it and
right now that willingness is not there
because people are so worried about the
future
and then when they hear the Bank of
Canada talking about negative interest
rates they might worry about the future
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