Negative interest rates are a "seeping poison" for the business models of many of the world's most important financial institutions, and could affect their long-term "viability," according to new research from analysts at Citi.
In a new note from Citi Research, analysts Willem Buiter and Ebrahim Rahbari argue that institutions across the insurance, pensions, and banking sector are being threatened by the persistently low and negative rates.
Citing the words of Felix Hufeld, the boss of the Federal Financial Supervisory Authority, Germany's equivalent of the UK's Financial Conduct Authority, Citi argues that the "seeping poison" could mean that many institutions, especially money market funds — funds comprised of safe, short-term debts often used by retail investors as a way of making money on a very safe investment — are no longer viable in the long term.
As Citi notes: "Viability in its strong sense means profitability (a rate of return on equity at least equal to the cost of capital). In its weak sense, viability means solvency."
Basically, Citi is warning that the negative rates may stop institutions being able to make money, which in turn would hit their ability to pay out on things like pensions and insurance policies.
Here is the key quote from analysts at Citi (emphasis ours):
"For instance, on May 10, 2016, the President of BaFin, Germany’s financial regulator, warned that low interest rates were threatening the viability of German pension funds and insurance companies and were a “seeping poison” for Germanys banking system. In this note, we argue that the diagnosis of a threat to German pensions funds and insurance companies is probably correct and that banks too may have their profitability damaged by persistent negative policy rates unless the effective lower bound (ELB) on interest rates is removed or, at least, lowered significantly or business models are changed radically."
When it comes to the banking sector, Citi points out that: "Banks in large part live off the differentials between lending and borrowing rates or between investment returns and funding rates." Persistently low interest rates could hit these differentials, lowering profitability and seriously harming banks in the long run.
Citi goes on to argue that those who have left the employment market, a.k.a retired people, will be the worst hit by the continued imposition of negative rates. Here is the key extract (emphasis ours):
"The real victims of low, let alone negative, safe rates are retirees and others unable to return to the labor market. They live off the returns on their savings (which may include the pension paid by a DB corporate pension fund) and the benefits provided by an unfunded and in most advanced economies likely mature social security retirement scheme. It is not financial viability that is the problem, but a much lower standard of living in retirement than previously expected, and for some outright poverty. Such a situation may of course become socially and politically unsustainable."
The note is the second time in just a few days that analysts from within Citigroup have railed against negative interest rates. On Friday, Citi FX analyst Gregory Marks argued that negative interest rates are the equivalent to letting "doctors perform experimental procedures on everyone who walks through the hospital doors."
Citi Economics joins a growing number of influential people and institutions criticising negative interest rate policies. Earlier this month, for instance, Deutsche Bank argued that the ECB's insistence on continuing to use negative rates is putting the entire European project at risk, while Commerzbank is considering taking money out of storage with the ECB and physically storing cash in its own vaults to avoid paying the penalty imposed by negative interest rates. Renowned US investor Jeff Gundlach recently called negative rates the "stupidest idea" he has ever come across.
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