Impact of Low or Negative Interest Rates on Global Growth
TOM BUTCHER: Natalia, in an environment of low or negative interest rates, what do you see as the current trends in global growth?
NATALIA GURUSHINA: In the Eurozone, where negative interest rates were introduced modestly in early 2014, the experience has been largely positive. We’ve seen improved lending conditions: bank lending rates declined, including the periphery, and also the credit growth in some categories has improved. The experience in countries such as Sweden and Denmark following the introduction of modestly negative interest rates has also been largely positive. It is probably fair to say that modestly negative interest rates contributed to the uptick in the GDP growth of these economies.
But as some countries, such as Denmark and Switzerland, proceeded to deepen policy rate cuts, it also became quite obvious that deeply negative policy rates have some undesirable consequences. Some of these consequences have to do with investment, some with consumption, and some with long-term growth. In particular, the improvement in credit creation that accompanied the initial stage of negative rates just stopped. As a matter of fact, bank lending rates and long-term mortgage rates started to increase. This has a direct, negative impact on both consumption and investment, and on the growth outlook.
At the same time, as interest rates decline the incentives for households to save increase. Especially as households are expecting lower future interest income they perhaps believe that they might need to have somewhat larger principal to live off of. This is the immediate impact on current consumption as saving rates go up. In this negative rate environment, it is also important to consider growth rates and the overall global growth outlook, given that the future business environment and potential growth can be affected by misallocations in capital that are caused by very low or negative policy rates. Unfortunately, however, negative policy rates can reduce incentives for governments to introduce much needed structural reforms. Finally, low or negative interest rates imply lower future potential income, which depresses the rate of future consumption. All these factors mean, or could mean, lower rather than higher long-term growth.
BUTCHER: What does this mean for the emerging markets?
GURUSHINA: The growth outlook in emerging markets should be considered in the context of what we just discussed. We are cognizant that growth surprises in many emerging markets have been negative. Having said that, we see several tailwinds for the growth outlook in emerging markets. In particular, one of the factors that might be helpful is the promise of policy support in China, both in the form of great expansion and potentially some fiscal stimulus. We also like the fact that central banks, at least key world central banks, are going to stay in the expansionary, accommodative mode, or at least they’re not going to rush to withdraw liquidity anytime soon. Finally, the relatively dovish tone of the U.S. Fed in March implies that some support for the U.S. dollar will be withdrawn. This gives room for central banks, at least in some emerging markets, to ease more or perhaps to not tighten as much because depreciation pressures on their respective currencies are declining. As a matter of fact, if emerging markets currencies become stronger, then we could potentially experience a virtuous cycle when this currency strength translates into lower inflation, and this lower inflation allow central banks to be more accommodative, improving the growth outlook.
BUTCHER: What about emerging markets fixed income?
GURUSHINA: First and foremost, what is key for us is to be liquid and nimble. We also like hard currency debt in emerging markets, both with beta and spread, but also with defensive characteristics. Good examples of the former are Argentina, Russia, and Brazil. Russia and Brazil are net sovereign creditors and these countries have improving current account balances. In Argentina we are hopeful that the situation with the holdouts will resolve soon, or that we are moving in that direction. Argentina’s new government also delivered quite a few positive surprises on the structural front. In regard to hard currency debt with more defensive characteristics, countries like Israel and South Korea come to mind. Both are economies with very strong external and fiscal balances.
We are also a little bit more constructive on local currency debt in emerging markets in part for the reasons that we just discussed, but also because real interest rates in emerging markets have been going up in the past few months, especially relative to the U.S. In this environment, we are looking at countries that pay you high real interest rates, have links to U.S. growth, and have strong central banks that don’t mind hiking if necessary. These are the characteristics we are looking at when we make our decisions. Finally, we like countries that allowed their currencies to depreciate during the recent risk-off phase, including Mexico, Indonesia, and Peru.
BUTCHER: Natalia, thank you very much.
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