the plan for the future
13 January 2016
Taken from: The Economist - There is more than one way to avoid negative interest rates
Economists often think that cash is to blame for the zero lower bound. Official interest rates can't fall far below zero because, the argument goes, people would hoard cash rather than pay to keep money in their deposit accounts. That has led some policymakers to suggest abolishing cash. In fact, hoarding banknotes isn't the only way for depositors to get around negative interest rates, as a story in yesterday's Financial Times shows. People can instead start paying bills early.
Businesses usually like early payment, and sometimes offer discounts to encourage it. Many tax authorities, too, offer discounts to those who pay in advance and charge interest to those who pay late. Not so in Zug, Switzerland, where the logic of negative interest rates has turned payment behaviour upside-down. The canton once offered a small discount to people who paid their tax bills early. Now, early payment is unwelcome, as it means the canton must pay a charge for holding the cash. To reduce the number of early payments, the canton has abolished the discount. It has even stopped charging interest on overdue tax bills.
Zug's behaviour shows that there is more than one way to avoid negative interest rates. Holding cheques without depositing them has the same effect as pre-paying bills and taxes. Hoarding train tickets, vouchers or gift cards works too. Paul Donovan, an economist at UBS, argues that companies are stocking up on inventories and lending money to their customers in order to avoid holding bank deposits. As long as it does not depreciate, holding surplus inventory makes sense when interest rates turn negative. In fact, holding more or less anything that has a fixed price is beneficial—though one downside to such a strategy is that these items, unlike bank deposits, do not benefit from a government guarantee.
These examples show that it isn't just the existence of cash which generates the zero lower bound. There are numerous ways in which bank depositors could push the cost of negative rates off onto others. It is true that, in time, some of these loopholes could be closed. More suppliers could start charging for early payment, and the issuers of gift cards, train tickets and other pseudo-currencies could incorporate an interest rate into their pricing. But as John Cochrane, a professor at the University of Chicago, notes, our legal and financial system "deeply enshrine the right to pay early." Getting rid of these loopholes might be every bit as difficult as getting rid of cash.