Rewind. Funny money chicken come home to roost

Strange things have happened in the realm of monetary policy. Two years ago, I saw an ad in the Economist, issued by ANZ Bank, Australia’s largest, announcing interest rates that it was offering for high-value loans of over $5,00,000, in six different currencies.

They were all zero. I wondered why on earth a bank would want to advertise the fact, albeit to people smart enough to have $5,00,000 lying around, that it would pay them nothing, yet expect them to deposit money with it.

Shortly thereafter, several central banks introduced zero interest rate policy (ZIRP), ceasing to pay interest on deposits banks kept with them.

The aim was to compel citizens to spend rather than to save, which was the antithesis of all that they had been taught so far.

ZIRP was subsequently followed by NIRP (negative interest rate policy). Bank deposits in the European Central Bank pay a -0.3 per cent interest rate.

After the 2008 crisis, central bankers ‘bailed out’ the commercial and investment banks by giving them more money, ostensibly to lend to consumers (for spending) and to business (for investing). Much of this money went, instead, into buying assets, creating bubbles in stock markets, bond markets, real estate and in derivatives.

The chicken are now coming home to roost, as those bubbles are popping. This is causing a lot of global stress and, amongst other things, stock markets to tank. Easy money creates several distortions. Industry is affected because low borrowing rates encourage them to make imprudent investment decisions which they later regret.

China, for example, expanded its steel making capacity to an insane level of 1.2 billion tonnes per annum, up 60 per cent in five years and accounting for over half the world’s steel production.

The collapse of its real estate sector has resulted in China exporting about 100 million tonnes of steel, leading to losses for steel companies.

In turn, these losses strain bank balance sheets. Eight PSBs declared cumulative losses of ₹10,866 crore in the December quarter. SBI saw a 62 per cent fall in its December quarter net profits, due to higher provisioning for bad loans.

Low interest rates also affect savers. Imagine a person in the US who has saved, say, $250,000 during his life, so as to be able to earn an annual interest of $15,000 when it earned 6 per cent as interest.

He now gets 0.3 per cent, which is enough for him to buy a daily cup of cappuccino. We don’t think about this enough, because banks still pay us 8 per cent on term deposits.

But here is something savers should know. Once you deposit money in a bank, the money belongs to the bank! You are simply an unsecured creditor.

An unsecured creditor gets paid after the Government, the secured creditors, the employees, have been paid.

As a matter of fact, every day the risk of a ‘bail in’ of banks, as opposed to a ‘bail-out’ is increasing! The world over. Deutsche Bank is under strain.

Felix Zalauf, a Swiss billionaire, speaking at a Barron’s roundtable, believes that Singapore’s banks are in danger, thanks to the risk of Chinese borrower default.

The insanity of central banks’ easy money policy has resulted in the EU, at least, passing a rule stating that the taxpayers would be the last to suffer the consequences of a bank collapse. The first would be depositors.

We may not have reached the end of the absurdity yet. For negative interest rates to work (in which banks would deduct interest from your money lying with them), central banks are waging a war on cash, to make it difficult for savers to withdraw money and keep it in cash. These are, as yet, only contingency scenarios, but scary ones.

So it is global concerns about China’s hard landing, the consequent collapse of commodity trade, the consequent strains on bank balance sheets, combined with the collapse of crude oil prices which has turned OPEC countries from being global lenders to global borrowers, that is causing investors to flee from emerging markets.

India, too, saw a large FII outflow, resulting in the Sensex falling 6.6 per cent over the past week.

It looks like there will be more pain ahead. Investors are advised to stock up on Novocain.

The writer is India Head, Euromoney Conferences

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