The Expropriation Game: Negative Interest Rates and Ending Cash

by Nikolaus Muchitsch

One of central banks’ major weapons in monetary policy is the key interest rate they set. To counter a possible recession, they argue, the banks can lower the interest rate, thus making it easier for consumers and businesses to take on loans, consequently stimulating spending and investments. The ultimate goal of this process is an avoidance of or an end to a recession. Regardless of whether this theory holds true, the last ten years have seen central banks make liberal use of this powerful weapon, with key interest rates set to barely above zero percent.

While the Federal Reserve, the U.S. central bank, has (much to the dismay of President Trump) recently increased its interest rate to up to 2.5 percent, the European Central Bank has left its interest rate untouched, leaving it at zero percent. Indeed, banks that deposit money at the ECB have to pay a penalty in the form of negative interest set at 0.4 percent. With the economic outlook in the Eurozone worsening, this situation is set to remain the same in the foreseeable future.

Unfortunately for the ECB, the decision to leave its interest rate at the current low level has deprived it of one of its most powerful weapons against the next economic crisis. However, the International Monetary Fund (IMF) has already come up with a solution to the dilemma: to enable the ECB and banks to set negative interest rates for their customers, the possibility to use cash in transactions should be significantly limited.

In a recent paper, the IMF is proposing to enable banks to levy negative interest rates of up to 3 percent. As such, ignoring inflation, the $100 you deposit today would only be worth $97 a year from now. This measure is supposed to stimulate spending and investments in case of a recession. However, if such a measure was to be implemented, any rational person would naturally withdraw his or her savings, preferring to instead simply hold cash, which would not be subject to negative interest. To counter this, the IMF argues, the usage of cash simply has to be restricted.

One option as proposed by the IMF is to split our current monetary system in two, creating two forms of money: electronic money (e-money) and cash. The e-money, deposited at the bank, would be subject to negative interest rates of 3%, while cash would be depreciated at the same rate as the E-Money, akin to inflation. Of the 100 e-$ deposited in your bank account today, 97 e-$ would be left a year from now. Likewise, the 100$ bill giving you 100$ worth of goods today, would only be able to purchase goods worth 97$ a year from now. The effect, as the IMF writes, would be that cash would “be losing value both in terms of goods and in terms of e-money, and there would be no benefit to holding cash relative to bank deposits.”

This idea of course is marketed as being “for the greater good” of avoiding a recession, with all the ugly consequences. In its core however, it is nothing but another attack on private property. For years, European citizens have been suffering from being silently expropriated, as their savings have been slowly dripping away thanks to a combination of low interest rates and inflation. On April 26, the ECB discontinued the 500 euro bill, a measure taken to allegedly fight terrorism and tax fraud. The IMF is already thinking about the next step.

What will happen if the penalty of 3 percent does not deliver on its promise, and the Eurozone still slides in a recession? Who is to say that the next step will not be a penalty of 6 or even 10 percent? It is a dangerous road the IMF is walking on here, proposing  to enable, if necessary, massive expropriation in the name of supposed economic growth. Cash is under attack from all sides – the new ideas of the IMF shows this once more. It is essential to stop initiatives like this dead in its tracks. We must remain vigilant. After all, cash is freedom.

Nikolaus Muchitsch is currently an intern at the Friedrich A. v. Hayek Institute through the trainee program of the Austrian Chamber of Industry. He has an undergraduate degree in business administration from the University of York and a Master of Science from the Erasmus University Rotterdam.

Read the German version here: Friedrich A. v. Hayek Institute