Negative Interest Rates and Deflation

di Finanza Operativa 8 Marzo 2016 | 14:00

di Walter Snyder, Swiss Financial Consulting

Hyperinflation for goods and services has so far not been evident despite QE while the prices of equities have risen inversely in respect to bond yields. The central bankers follow the latest fad for negative interest rates after almost a decade of ZIRP (Zero Interest Rate Policy). Salaries have generally remained stable in the USA, EU and Japan. So there is no salary rise-cost of production rise-product price rise inflation cycle. Negative interest rates were introduced by the SNB (Swiss National Bank) to discourage foreigners buying Swiss francs in order to avoid appreciation of the currency. That was when the Swiss franc was still considered a safe haven.

Now, however, negative interest rates are supposed to stimulate the economy by encouraging banks to make loans rather than pay for depositing money with the national bank. At the same time practically zero interest rates have encouraged governments and companies to rush into debt that can be serviced cheaply. In some cases sovereign debt yields negative interest if that can be called a yield. New company debt has been used mainly for stock buy-back programmes along with mergers and acquisitions while government debt has been employed to pay for ever increasing bureaucratic staffs and social services. CapEx (capital expenditure) seems to have been neglected to a certain extent.

Coupled with a cyclic economic slowdown, a new situation has come about over which the Doom and Gloom Club can gloat with satisfaction, predicting a global collapse and other apocalyptic disasters. There is a growing apprehension that the central bankers have become desperate as raising interest rates would stifle any hint of recovery besides pushing several governments into having to default on their debts. While interest rates remain at near zero, inflation is not going to be a problem Deflation, which is good for creditors, should be feared by governments more than inflation (good for debtors). QE has had less and less effect as the dose has been increased. This has not escaped the notice of most commentators.

The conclusion to be drawn is that hyperinflation has not materialized due to workers’ salaries remaining stable and the low interest rates imposed by the Keynesian apparatchiks in the well-paid corridors of the central banks. The overwhelming sheer size of sovereign debt together with the debt incurred by companies to fund share buy-back programmes and acquisitions impedes economic growth. The result is stagnation with inflated equity prices, falling bond yields and little growth. As if all this were not sufficient to cause worry, the over expansion in China has led to a sharp slowdown in capital expenditure in ship building, steel making and construction, which has contributed in no small measure to the downturn in commodities. Furthermore, the fracking revolution has induced traditional petroleum producers to increase output in an attempt to stymie the American innovators. Even so, low oil prices have not led to significant growth even though one would have expected it, and that is due to the negative factors noted above.

The message for investors is the same as in earlier Newsletters: avoid bonds; go for solid equities that pay dividends; stay away from FANGs; 5% to 10% of the portfolio in physical gold, not paper gold; well-situated real estate that is not overpriced and income-producing properties; avoid the over-valued US dollar. In fact speculative gold mining shares picked up notably recently, and uranium prices should rise before the end of 2016. All is not lost yet.

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