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The interest graveyard

22 March 2019

 Salomons Judgement

The cemetery is full of investors who have vainly anticipated an interest rate rise in Japan in the last two decades. I’m afraid that room must be made available for new investors expecting interest rates to rise in Europe.

It’s been 20 years since the central bank in Japan lowered the policy rate to 0% to prevent the economy from slipping any further. Afterwards, other central banks also followed the wise men from the East. I see a parallel between Japan and Europe, unfortunately ...

For those who don’t know, I started my career in 1997 as an investor in Japanese equities. I have always been interested in the country since then. In 1999 the Bank of Japan switched to a zero-interest policy to cope with the economic problems. This was looked at with astonishment at the time.

Despite a growing mountain of debt, the interest rates of Japanese government bonds continued to fall. The ten-year interest rate has been moving around 0% for years. For the same amount of time, investors have argued that interest rates can only go in one direction. However, the cemetery is full of investors who anticipated the rise that never came. Although there have been revivals, they were always temporary. Moreover, the new interest rate peak always fell below the previous one, after which the policy interest rate once again fell below sea level.

Rising interest rates in Europe

My fear is that the cemetery has to make room for new investors who expect rising interest rates in Europe. The parallels between Japan and Europe are simply too big to ignore. Europe is also struggling with an aging population, has difficulty boosting growth and inflation, has limited lending and is stuck in an extremely low interest rate environment.

The negative side effects of low interest rates are gradually becoming more harmful than the positive effects that are hopefully still ahead of us. The banks can no longer make a living and ‘guarantees from the past’ take a bite from the balance sheets of insurers and pension funds every day.

A few weeks ago, I spoke to one of my old friends who now works for a large Japanese bank. He could not suppress a smile when he said: “You know Roelof, the Japanese nowadays fear that they will follow in Europe’s footsteps …”

Keeping monetary policy extremely easy is not the solution. It’s about time that the savers are reimbursed for their money again, rather than having to take excessive risks for a little extra return. It’s also time that companies that are only viable thanks to the free money infusion make way for real entrepreneurs. Rather now than later.

But what would be the solution? That is a topic for a completely new column. Can’t wait? In that case please the seminal book from Richard Koo. Or – if you prefer – watch his short clip.

The author

Roelof Salomons

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