Central banks use interest rates to respond to fluctuations in the economy. It’s a key instrument in controlling the country’s money supply and inflation.
In 2020, the Federal Reserve (the US central bank) cut interest rates to zero as a drastic measure in response to the economic shock of the COVID-19 pandemic. Since then, there has been speculation that interest rates may go negative.
But negative interest rates are not yet considered an option for stabilizing the US economy. The US central bank’s benchmark interest rates range between 5.25 and 5.5 percent. Considering this, the likelihood of negative interest rates remains unlikely.
Regardless, it’s crucial to understand the implications of negative interest rates and how they influence personal finance. It doesn’t hurt to equip yourself with this knowledge, as it may impact your financial situation.
In this article, learn the consequences of negative interest rates and the different ways to avoid them.
The Riksbank, the central bank of Sweden, was the first to implement official negative rates in 2009. Likewise, it’s the first central bank to move its key rate back up to zero or normal territory.
The European Central Bank (ECB) took a similar approach in 2014, adopting a negative interest rate policy. But as of today, only the central banks of Japan, Denmark, and Switzerland have continued to maintain negative policy rates.
Because of the effects of the crisis, such as that of COVID-19, negative interest rate policies have regained significant attention. A negative interest rate is a type of monetary policy in which interest rates drop below zero percent.
This policy is implemented during economic downturns when consumers postpone spending while anticipating lower prices or better economic conditions. Consequently, significant demand declines as people hold onto excessive money rather than spending it.
When that happens, prices can spiral downward, leading to business cutbacks and unemployment. As a result, central banks turn to negative interest rates policy to increase economic activity and support price stability.
Under a negative rate policy, banks and lenders pay borrowers for taking loans, making the cost of borrowing money cheaper for businesses and households. That might seem appealing, but it can lead to extremely low mortgage rates, driving up demand for property and resulting in higher housing prices.
Moreover, negative interest rates have unfavorable effects on savings and investments. Central banks require financial firms to pay for storing their excess reserves. Consequently, these financial institutions are more likely to charge depositors a holding fee to recoup the costs of negative interest rates.Also read: 10 Best Chrome Extensions For 2021
Negative interest rates make borrowing more attractive. At the same time, implementing the policy can reduce the appeal of keeping money in the bank.
The bright side is that there are restrictions on how far a central bank can cut interest rates into negative territory. Savers, depositors, and investors can avoid negative interest rates in different ways. Find out how by reading further.
Due to prolonged periods of extremely low-interest rates, many investors are left with insufficient or zero returns on their investments. Finding yields in a negative interest rate economy can be even more challenging.
Thankfully, investors can use diversification to reduce the risk in an investment portfolio. It’s a strategy that involves distributing your investments across various securities and types of assets. You can minimize risk and stabilize enhanced returns by investing in alternative options.
With lower sensitivity to traditional bond and stock markets, alternative investments perform well in different economic periods. It may seem counterintuitive to invest during a financial crisis. But you can complement bond and stock investments and avoid negative interest rates with alternative options, such as real estate.
A negative interest rate doesn’t automatically lead to negative mortgage interest rates. But with more affordable borrowing costs, investors can easily finance property purchases. Consequently, they can reap the benefit of property value appreciation over time by investing in real estate at a lower borrowing cost.
It’s worth noting, however, that negative interest rates can create a stimulus for real estate demand. It can push prices higher and lead to a decline in relative yields. To protect yourself from these risks, consider investing in real estate overseas.
A high-yield savings account is an incredible way to earn more interest and better returns. Typical interest rates on high-yield savings accounts are often 10 to 20 times higher than regular ones.
There may be fewer risks if you invest your money in a high-yield savings account during a challenging economic condition than other options like investing in bonds. Even if the interest rate is lower and goes negative, high-yield savings accounts can still offer positive returns.
These accounts may not be immune to interest rate changes. Suppose you want to add extra protection to your high-yield savings accounts. You can move your savings to a federally insured online account.
While your money sits in your account, you’ll earn a higher return on your high-yield savings account when interest rates rise again.
Another way to diversify your finances and avoid negative interest rates is to take advantage of offshore banking. It refers to saving money outside your home country in an international bank account.
Offshore banks may offer more competitive interest rates than domestic banks under a negative interest rate policy. By putting your money in a stable foreign account, you can safeguard your savings and earn higher returns.
That’s particularly crucial if your home country is experiencing economic uncertainty or in a negative interest rate environment. However, ensure to comply with tax laws when opening an offshore account.
Negative interest rates are not anticipated in the foreseeable future. Still, learning how to use a negative interest rate policy to your advantage is a good idea.
You can apply these strategies to avoid being charged negative interest rates and secure higher yields for your money. Suppose you’re unsure about navigating your financial situation. Don’t hesitate to seek help from a professional, especially during unprecedented economic times.
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