Thursday, September 4, 2014

Negative real interest rates

Negative real interest rates are now present in five EU countries for maturities of 2 years and under. There are three more that are at zero. Germany has negative yields out to four years.

What is most interesting is the level of market complacency about this issue. Investors are generally avoiding some of this debt but buyers are still out there. Governments have not been driven to strong action.  I had a discussion with debt finance director for one of these negative yield countries and asked a simple question. Why would anyone want to hold this debt? He looked me straight in the eye and stated that deflation could get worse, so this could be a good deal.

It is just as interesting on a broader basis that this same country is trying to cut their overall debt to GDP level. Who can complain about that, but if you can finance infrastructure projects at negative rates and growth is slow why wouldn't you do it as a way to increase aggregate demand? Fiscal multipliers are supposed to be higher at low rates. You would only want to focus on reducing the debt to GDP ratio if you believed that increases in government spending will not affect cyclical demand.

Investors do not have many choices. Governments are not safe assets so you have to move to riskier assets or get out European investments.

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