The above examples of negative central bank policy rates are newsworthy because they are unusual. Some analysts have argued that such examples suggest that central banks should consider setting negative policy rates, including negative rates on deposits held at the central bank. Such proposals are foolish for a number of reasons. First, a policy rate likely would be set to a negative value only when economic conditions are so weak that the central bank has previously reduced its policy rate to zero. Identifying creditworthy borrowers during such periods is unusually challenging. How strongly should banks during such a period be encouraged to expand lending? Second, negative central bank interest rates may be interpreted as a tax on banks—a tax that is highest during periods of quantitative easing (QE).3 Central banks typically implement QE policies via large-scale asset purchases. Sellers of these assets are paid in newly created central bank deposits, which, in due course, arrive in the accounts of commercial banks at the central bank. It is an axiom of central banking that the banking system itself cannot reduce the aggregate amount of its central bank deposits no matter how many loans are made because the funds loaned by one bank eventually are redeposited at another. Is it reasonable for the central bank to impose a tax on deposits held at the central bank when the central bank itself determines the amount of such deposits held by banks and the banking system? Perhaps these and other considerations caused European Central Bank President Mario Draghi in a recent press conference to label negative deposit rates “uncharted waters” and dismiss any possibility that the ECB would consider it.
I’d like to add a few brief comments. Their first argument sounds an awful lot like the Real Bills Doctrine (now viewed as a fallacy. In the early years of the Fed it was believed that monetary policy should be more expansionary during booms, when the “need” for credit was greater, and more contractionary during recessions when the “need” for credit was lower. This policy is procyclical, and may help explain why the economy actually became more unstable during the Fed’s first 30 years.
I am also confused by the second point. Banks don’t have to hold reserve balances at the Fed if they don’t want to. They can simply lower the interest rate on bank deposits enough to raise the currency/deposit ratio enough to reach their desired holdings of ERs. There’s no zero bound on the interest rate on bank deposits. (As an aside, the question of whether something is a “tax” has no relationship to whether it can be avoided. The case for imposing a new tax is actually stronger when the tax cannot be avoided.)