We have been through several boom and bust cycles just in the last couple of decades. We had the tech boom of the late 1990s, quickly followed by the housing boom of the mid 2000s.
These bubbles happen primarily because of the easy money and artificially low interest rates produced by the Federal Reserve, or any other central bank. When you tamper with the money and distort markets, this stuff happens.
With the housing bubble, banks were making loans that simply would not have been made in a truly free market. Instead, we had ultra low interest rates, coupled with the government encouraging risky lending, while also acting as a lender of last resort.
The government and Federal Reserve showed these financial institutions in 2008/ 2009 that they really could rely on bailouts if their lending went bad. The “Greenspan put” turned into the “Bernanke put”. And is there any doubt there would be a “Yellen put” too, if needed?
This risky lending got us into trouble before, so you would think that the government would want to discourage this. But that would make too much sense, and we are talking about the government here.
You can still find banks and other financial institutions that will hand out home loans for little money down. You would think that after the last housing disaster that we would see a minimum of 20% down. But when you have government enterprises that sponsor FHA loans and the like, this is what you get.
Even with this, lenders are remaining relatively conservative given the circumstances. This is why the banks have piled up a couple of trillion dollars in excess reserves that could be lent out, but aren’t.
In the U.S., the Fed is currently paying banks 0.5% on their reserves, so this actually does discourage lending for the time being. But with the talk of negative interest rates one day coming to the U.S., we have to wonder if this will last.
Much of Europe and Japan are already experimenting with negative interest rates. The central banks are imposing a fee on banks for their excess reserves. They want them to lend out more money.
This is a major economic fallacy that increased lending will lead to a more robust economy. For some reason, there is a fear of savings. Lending isn’t bad per se either, but it should be done voluntarily in a free market without distortions.
Now the central bankers in Europe and Japan have another issue to deal with. The banks are not anxious to lend and borrowers aren’t anxious to borrow. Right now, it seems their only solution is to go further into negative territory with interest rates.
German Bank Hoarding
Der Spiegel, a major German newspaper, recently reported that the Bavarian Banking Association is telling German banks that they should start hoarding physical cash.
Instead of keeping digital money with the European Central Bank, where they will be charged money (negative interest rates), they can just keep massive piles of cash stored in their vaults.
This sounds risky in a way, but it is also financially risky to have money sitting with the ECB constantly losing value.
The problem is that most of the money in our society – whether we are talking about the U.S. or Europe – is in the form of digits. Only a small fraction of the money in circulation actually exists in the form of actual bills and coins.
We have also seen a push lately by various governments to get rid of higher denominations of currency. In the U.S., there is already some talk about eliminating 100-dollar bills.
Some are speculating that the powers-that-be want to ban all cash so that they can better implement monetary policy and also for more control over the people.
A total ban on cash is very unlikely though, especially when a sizable portion of the population don’t even have bank accounts. There is still a lot of cash that changes hands every day.
But limiting the amount of cash in circulation makes perfect sense in the context of this story on German banks. The central banks don’t want banks hoarding cash in their vaults because it counteracts their attempts at imposing negative interest rates.
Therefore, if further limiting cash in circulation doesn’t get the job done, then we can expect to see legislation specifically limiting the amount of cash that banks are permitted to hold in their vaults. Or better yet, the major central banks of the world could just impose a negative interest rate on vault cash.
In other words, I don’t think this plan of banks hoarding physical cash is going to fly, or at least not for very long. The banks are already highly regulated, so it won’t take much to prevent this.
On the other hand, it is a lot harder to get the general population not to do the same. If banks start passing off significant costs due to negative interest rates, then we should expect more people to hoard cash.
In the U.S., we don’t have negative rates, or at least not yet. We can see what happens in Europe and Japan as a good example of what might happen here. Or perhaps it will serve as a good example of what not to do.