Market Overview

27 January 2020

Where do we go from the era of the unconventional?

Since the global financial crisis (GFC) of 2008, many central banks have opted to bring their prime interest rate closer to the so-called zero-lower bond (lower limit at which interest rates cannot be lower than zero) so that they could reach their inflation target. The British economist John Hicks (1937) and American Paul Krugman (1981) have called this condition a liquidity trap - a situation where conventional monetary policy loses its effectiveness as there is no longer room for a reduction in the interest rate.

From then on, officials from several central banks looked for ways that could get around this barrier. They began to buy treasury bonds of various governments leading to a reduction in their yields therefore closing a bank source of investment (this event has the name of Quantitative Easing). The intention is for banks to channel their investments into the real economy through lending.

Some central banks have also lowered their deposit interest rate (which commercial banks have with their central bank) to a negative ground - this is a subject that has generated great controversy in the traditional media and it is also not fully consensual within the academia. It is thought that the consequent reduction in the margins of banks, may lead to a rise in commissions from bank deposits. This led Lawrence Summers (2018) to claim that this policy could have a "negative effect on GDP". However, it happens that there are more studies which conclude a greater benefit from this initiative. Ben Bernanke (2019) states that "negative interest rates appear to have considerable benefits and manageable costs " and Carlo Atavilla et al. (2019) states that even those companies that are affected by a negative deposit rate " increase their investment in tangible and intangible assets thereby decreasing their cash holdings to avoid the associated costs ".

In the European case, all these measures have been adopted and it is believed that it has worked as a signal that low interest rates have come to stay. Thus, they contributed to reduce long-term yields from most eurozone countries which also facilitated credit conditions. However, some zombie companies still remain active as a result of these measures and credit growth seems to be declining. Particularly, in Portugal the effect on the decline in yields was similar to the rest of the euro zone. The Bank of Portugal bought public debt securities more intensively when compared proportionally to the European average, which led to a drop in the 10-year treasury bond interest rate from approximately 5% in 2014 to the current 0.39%.

The benefits of these actions have been marginally lower over time and the current geopolitical conditions in recent years have contributed to the unattended inflation target of close to 2%.

Since then analysts started talking about new alternatives and that is where the term Helicopter Money came out more frequently. This policy is easy to explain - in a case where demand is too low, the central bank could print money and deposit it in every European citizen's wallet. This would increase disposable income, demand, consumption and hopefully inflation. Olivier Blanchard (2019) points out, however, several barriers to its implementation. The former IMF chief economist, states that Helicopter Money is a way of getting around European fiscal consolidation rules and some European countries would not be much in favor of this scenario. Furthermore, there are several unanswered questions: Who would give central banks information about families? Would they need parliamentary approval? Does the ECB have the capacity to do so? Would all countries receive the same amount? Would the ECB not be displeased with a consequent reduction in its balance sheet?

Basically, it is unlikely that we will see much progress on the diversity of the unconventional measures already imposed. Perhaps only in the face of a major crisis could we see Helicopter Money in Europe. It would certainly be easier that countries with some budgetary flexibility use a more expansionary fiscal policy so that it could contribute to a more prosperous growth.

Open Demo Account
I understand and accept the Privacy Policy and agree that my name and contact details can be used by TeleTrade to contact me about the information I have selected.
23 International Awards
Have a question?

We are ready to assist you in every step of your trading experience
by providing 24/5 multilingual customer support.

Follow us

Risk Warning: Trading Forex and CFDs on margin carries a high level of risk and may not be suitable for all investors. CFDs are complex instruments and come with a high risk of losing money rapidly due to leverage. 72.72% of retail investor accounts lose money when trading CFDs with this provider. You should consider whether you understand how CFDs work and whether you can afford to take the high risk of losing your money. Prior to trading, you should take into consideration your level of experience and financial situation. TeleTrade strives to provide you with all the necessary information and protective measures, but, if the risks seem still unclear to you, please seek independent advice.

© 2011-2021 Teletrade-DJ International Consulting Ltd

Teletrade-DJ International Consulting Ltd is registered as a Cyprus Investment Firm (CIF) under registration number HE272810 and is licensed by the Cyprus Securities and Exchange Commission (CySEC) under license number 158/11.

The company operates in accordance with the Markets in Financial Instruments Directive (MiFID).

The content on this website is for information purposes only. All the services and information provided have been obtained from sources deemed to be reliable. Teletrade-DJ International Consulting Ltd ("TeleTrade") and/or any third-party information providers provide the services and information without warranty of any kind. By using this information and services you agree that under no circumstances shall TeleTrade have any liability to any person or entity for any loss or damage in whole or part caused by reliance on such information and services.

TeleTrade cooperates exclusively with regulated financial institutions for the safekeeping of clients' funds. Please see the entire list of banks and payment service providers entrusted with the handling of clients' funds.

Please read our full Terms of Use.

To maximise our visitors' browsing experience, TeleTrade uses cookies in our web services. By continuing to browse this site you agree to our use of cookies.

Teletrade-DJ International Consulting Ltd currently provides its services on a cross-border basis, within EEA states (except Belgium) under the MiFID passporting regime, and in selected 3rd countries. TeleTrade does not provide its services to residents or nationals of the USA.

Material posted here is solely for information purposes and reliance on this may lead to losses. Past performances are not a reliable indicator of future results. Please read our full disclaimer.

CFDs are complex instruments and come with a high risk of losing money rapidly due to leverage. 72.72% of retail investor accounts lose money when trading CFDs with this provider. You should consider whether you understand how CFDs work and whether you can afford to take the high risk of losing your money.