US could follow the EU into negative interest rate territory

NEOnline | IR

President Donald Trump is calling for zero or negative rates in the US, in line with EU and Japanese monetary policy. That policy shift is the combination of economic reality and electoral calculation.

In 2016 Trump accused the US Federal Reserve of getting savers “absolutely creamed” with an ultra-low rate policy but three years following his election he has become a major advocate for cheap liquidity. In September he explicitly asked the US Fed to slash rates to zero or even into negative territory.

“Go across the world and you’ll see either very low-interest rates, or negative rates. The President wants to be competitive with these other countries on this, but I don’t think he’ll fire Jay Powell (even if I should!),” Trump Tweeted.

But US growth has come to a halt.

The economy slowed further in the third quarter, as consumer spending is declining. Retail accounts for two-thirds of the US economy and it is losing ground as tariffs to Chinese and European products are taking their toll.

On Wednesday the Commerce Department will provide a GDP snapshot, which is not likely to confirm a decelerating momentum towards recession. The effect of the $1.5 trillion tax cut package is wearing off and second-quarter growth was 1,6%, compared to 2% in the first quarter. Third-quarter is likely to show further decline.

The economy is hamstrung largely because of the Sino-American trade war, ending an 11-year continuous growth streak. Inflation is projected to be below the 2% target, closer to 1,7%, despite rising prices on a range of products. In fact, the declining trade deficit shows subdued consumption, which in the US heralds bad news for the economy.

While unemployment is at a 50-year low, consumer confidence is falling and business investment has contracted to three-year lows, including in the oil sector. The disaster of the 737 Max is also taking weighing heavily on manufacturing. Industries were building a stock in anticipation of increased Chinese tariffs but this positive effect on the GDP is now wearing off.

As the US enters an election year Trump is eager to maintain growth and avoid the kind of economic slowdown the economy experienced in 2008/9. Now, a growing number of economists are looking for a domestic jolt to the economy, espousing bold expansionary monetary policy, including the conservative Fed Chair Alan Greenspan.

Negative rates penalize financial institutions for saving money rather than lending to the real economy. However, they also penalize private savings, fixed-income funds – mostly pension scheme – and thus can have a detrimental political effect in mature and ageing societies. In addition, cheap liquidity in full employment conditions can inflate housing prices, leading to further inequality as homeownership becomes more expensive.


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