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What are negative interest rates?

Negative interest rates might seem like a borderline crazy strategy, but while they’re an unconventional monetary policy tool, they have been deployed by multiple countries over the past 10 years. But what are negative interest rates? Find out more about the consequences of negative interest rates for mortgages, savings, loans, and credit cards, right here.

What does negative interest rate mean?

It may sound counterintuitive, but negative interest rates are precisely what they sound like – interest rates that fall below 0%. In other words, it’s when borrowers are paid to borrow money. Negative interest rates are very unusual and only occur during significant economic recessions. They are implemented to get money out of banks and back into the economy via mortgages and loans.

How do negative interest rates work?

Negative interest rates are essentially an example of the traditional world of banking turned on its head. Instead of the bank paying you to place your cash in a savings account, you’d have to pay the bank. At the same time, rather than paying interest on a loan, you’d actually make a small amount of money, meaning that you’ll end up paying back less than the original amount you borrowed.

Consequences of negative interest rates

The consequences of negative interest rates can be tough to predict, as banks may be reluctant to extend these negative rates to consumers, choosing instead to increase banking fees or reduce lending entirely. However, there are several consequences of negative interest rates that we can accurately forecast. Here’s what could happen to your mortgage, savings, and loans/credit cards if negative interest rates in the UK became a reality:

  • Impact on mortgages

Theoretically, the introduction of negative interest rates could lead to borrowers being credited with interest. However, it’s doubtful that this would really happen. If you have a fixed-rate mortgage, as most do, negative interest rates won’t have any impact. Even for people with a variable-rate mortgage, the extent of any potential falls in your rate is likely to be limited by your mortgage’s terms and conditions. Most mortgages have a specific minimum rate, while others may have a “collar” that prevents the lender from cutting the rate at all.

  • Impact on savings

Negative interest rates would penalise businesses/customers that keep their savings in a bank account, as the value of the savings would decrease over time. However, even if negative interest rates are introduced, it’s unlikely that you’d have to pay your bank to look after the money. In practice, many people would withdraw their savings and keep them at home, which is a massive security risk and is also likely to reduce the ability of banks to lend in the first place.

  • Impact on loans and credit cards

Although personal loans have relatively low rates, they tend to be fixed. Therefore, if negative interest rates are implemented, you won’t see any benefits. When it comes to credit cards, it’s a similar story. After the introductory period, credit card rates rise significantly higher than the base rate, so they’re unlikely to plummet even if negative interest rates take hold.

As you can see, while the consequences of negative interest rates can be extensive, in practice, the effect on you or your business is challenging to predict with any certainty.

Negative interest rates in the UK

The Bank of England’s current base rate stands at 0.1% – the lowest on record. Considering the impact of the coronavirus on the UK’s economy, the BoE is considering all possible economic activities, including the implementation of negative interest rates. The UK wouldn’t be a trailblazer in this regard, as Sweden and Japan have already deployed negative interest rates in 2009 and 2014, respectively. Whether negative interest rates in the UK come to pass is another matter. At the moment, it seems unlikely, and the BoE is much more likely to pursue quantitative easing (QE) than slash interest rates.

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GoCardless (company registration number 07495895) is authorised by the Financial Conduct Authority under the Payment Services Regulations 2017, registration number 597190, for the provision of payment services. GoCardless SAS (23-25 Avenue Mac-Mahon, Paris, 75017, France), an affiliate of GoCardless Ltd (company registration number 834 422 180, R.C.S. PARIS), is authorised by the ACPR (French Prudential Supervision and Resolution Authority), Bank Code (CIB) 17118, for the provision of payment services.