Interest Rates: Naturally Negative?

It is no longer absurd to think that the nominal yield on U.S. Treasury securities could go negative. Last week the German 30-year government bond yield dipped into negative territory for the first time ever. Around $14 trillion of outstanding bonds worldwide, or 25% of the market, now trade at negative yields, according to Bloomberg. What was once viewed as a short-term aberration – that creditors are paying debtors for taking their money – has already become commonplace in developed markets outside of the U.S. Whenever the world economy next goes into hibernation, U.S. Treasuries – which many investors view as the ultimate “safe haven” apart from gold – may be no exception to the negative yield phenomenon. And if trade tensions keep escalating, bond markets may move in that direction faster than many investors think.

What’s behind negative interest rates? Many observers blame central banks like the European Central Bank (ECB) and the Bank of Japan (BOJ) that are taxing banks’ excess reserves with negative deposit rates and have made bonds scarcer by removing them from the market through their purchase programs. The BOJ now owns about half and the ECB about 30% of the bonds issued by their respective governments, according to Bloomberg.

Secular drivers of negative rates

However, we believe central banks are not the villains but rather the victims of deeper fundamental drivers behind low and negative interest rates. The two most important secular drivers are demographics and technology. Rising life expectancy increases desired saving while new technologies are capital-saving and are becoming cheaper – and thus reduce ex ante demand for investment. The resulting savings glut tends to push the “natural” rate of interest lower and lower.