Negative Interest Rates Threaten the Financial System
Markets may need to be rebuilt on a new set of assumptions, but we don’t know what those should be or how they would work.
Negative rates in the U.S. would have profound implications for markets.
Photographer: Drew Angerer/Getty Images
Former Federal Reserve Chairman Alan Greenspan recently said he wouldn’t be surprised if yields on U.S. bonds turned negative and if they do, it wouldn’t be “that big a of a deal.” That seems to be a sentiment widely held in central banking circles these days, but it’s wrong. Negative interest rates represent a threat to the financial system.
To understand why, let’s start with the existing fractional reserve banking system, which is more than a century old. For every dollar that goes into a bank, some set amount (usually about 10%) must go into a reserve account to be overseen by the central bank. The rest is either lent out or used to buy securities.