Trump as Herostratus.
US President Donald Trump called on the Federal Reserve to start using negative rates. He posted his call on Twitter on May 12: “As long as other countries benefit from negative interest rates, the U.S. should also accept this ‘gift’. Big numbers!” – Trump wrote.
This is not the first time the American president has made such an appeal to the US Central Bank. “We must always pay less interest than others!” – he wrote in September last year, citing negative rates that have been introduced in Europe and Asia.
And last October, Trump left a note on his Twitter page: “The Federal Reserve will evade its duties unless it lowers the rate and ideally introduces incentive measures. Look at our competitors around the world. Germany and others receive money for their loans. The Fed has raised the rate too quickly and is lowering it too slowly.”
Trump did not say directly that he was demanding a negative rate from the Federal Reserve, but he hinted at it, citing Germany as an example. There, the German Treasury issues debt securities with a negative interest rate; that means not only does it get money on the market, but the buyers of the securities also pay for it. Trump also wants to increase the U.S. public debt by getting an additional source of money for the treasury. And to do that, he needs the Fed’s negative key rates.
Let me remind you that in 2008, at the height of the financial and economic crisis, the Federal Reserve reduced its key rate to 0.0-0.25%.
It was kept at this level until December 2015. This was followed by several increases, and the key rate gradually reached the level of 2.25-2.50%. Since his arrival at the White House, Trump has persistently sought a reduction in the key rate. Finally, the rate was lowered by 0.25 percentage points (25 basis points) at the end of July last year. In September there was another decline and the rate was 1.75-2.0%. Trump constantly pressured the chairman of the US Federal Reserve Board of Governors to make radical decisions on the key rate. In a fit of rage he once said that the Federal Reserve was a greater threat to America than China. However, with the onset of the virus and economic crisis, sharp contradictions between the US president and the US Central Bank began to disappear. Federal Reserve leaders realized the seriousness of the threats posed by the crisis and began to act decisively.
First, they turned on the printing press (resumption of “quantitative easing”, but on a particularly large scale).
Secondly, they quickly brought the key stake to the level of the skirting board. In March, the Federal Reserve held two extraordinary meetings on the key stake, dropping it to four standard steps. It again became equal to 0.0-0.25% (the level at which it was in 2008-2015).
Trump and other supporters of a further reduction of the key rate, i.e. a switch to a negative zone, are guided by the following considerations
The first one. Money will be available to companies in the real sector and will soften the decline of the economy amid the crisis caused by the spread of viral infection.
The Second one. A low key rate will contribute to the depreciation of the dollar, which will improve the international competitiveness of the American economy.
The third one. The U.S. government has embarked on a rapid increase in public debt. Decrease in the key rate will contribute to lower interest rates on U.S. Treasury securities, through which the U.S. Treasury is closing the holes in the federal budget. There will be a risk of increased budget spending on public debt servicing; to eliminate this risk, the key rate should be lowered. It would be ideal if the interest rates on treasury securities became negative at all, then the public debt would generate income to the US budget rather than spending!
Trump was ready to compete with other countries to lower the key rate. The Federal Reserve has already managed to almost equal the European Central Bank, which in early 2016 lowered its key rate to zero, and it has been at this level for over four years.
The range of 0.0-0.25% today is the key rate of most central banks in the countries of the “golden billion” (%): Bank of Sweden – 0.0; National Bank of Denmark – 0.05; Bank of England – 0.10; Bank of Canada – 0.25; Reserve Bank of Australia – 0.25; Reserve Bank of New Zealand – 0.25. At the same time, the Fed is behind, say, the Bank of Japan, which has a key rate of minus 0.10%, and the National Bank of Switzerland, which has a record low rate of minus 0.75%.
However, it should be kept in mind that minus negative rates may outweigh the abovementioned advantages. There are several negative consequences, I will name only the two most important ones.
The first one. The possible further reduction of interest rates on U.S. Treasuries and their transition to a negative zone may lead to a decrease in demand for U.S. Treasuries in the global financial market. And even a complete loss of interest in this financial instrument from traditional buyers of such securities – central banks of other countries, American and foreign institutional investors (pension funds, insurance companies, investment funds). And then the only purchaser of treasury securities will be the American Central Bank. However, already today more than 90 percent of the last issues of treasury securities have been bought up by the Federal Reserve. A vicious closed circle “Federal Reserve – Treasury”, in which dollars and treasury securities will circulate, is born. The Fed and the Treasury will find themselves in a virtual world and definitively lose the ability to influence the real world – not only outside the US, but also within the country.
Second. Further reduction of the Fed’s key rate may lead to weakening of the dollar exchange rate. If the weakening is strong, the dollar may enter the corkscrew and begin to rapidly lose the position of the world currency. America will lose the status of a great power, which since the end of World War II has been held on two pillars – the dollar and military strength.
P.S.
The entry of the American dollar into the corkscrew is possible for other reasons. Trump threatens to cancel the portfolio of U.S. Treasury securities on the balance sheet of the People’s Bank of China. The value of such securities is 1.1 trillion dollars. Trump says Washington will do so unless China finds other ways to compensate America for “the damage caused by the spread of coronavirus in the United States. Central banks in other countries (not just China) have become tense, realizing that Trump can really give up on treasury debt; he has dealt a very powerful blow to the dollar’s credibility. That’s why the demand for U.S. debt outside the US has plummeted in the last two months. That is why the main buyer of new issues of treasury securities in April was the US Federal Reserve. Soon it may become their only buyer.
Valentin Katasonov, Strategic Culture Foundation