Tuesday, August 14, 2012

According to Deutsche Bank, central bank policies cost investors $163 billion

Bloomberg reports that according to analysts at Deutsche Bank central bank policies like zero interest rates and quantitative easing are costing investors $163 billion per decade.

In reality, the cost is closer to $100 billion per year.

Global central bank policy that has driven down interest rates to boost economic growth will cost investors about $163 billion over a 10-year period, according to Deutsche Bank AG. 
Yields on government debt have fallen about 81 basis points since the third quarter of 2010 amid $1.74 trillion of debt issuance as central banks expanded their balance sheets, Dominic Konstam, global head of interest-rates research at Deutsche Bank in New York, wrote Aug. 10 in a research report. 
“It seems to be taken for granted now that central bank policies have implicitly underwritten a period of financial repression by artificially suppressing returns,” Deutsche Bank said. “For the issuer this is the mirror image of the benefit in terms of lower borrowing costs.”
Like all analyzes, this one is driven by its assumptions.  In this case, the analysis looked at the decline in interest rates since the third quarter of 2010.  However, by then, central banks were already artificially suppressing interest rates.

If we go back to Treasury rates at the start of the financial crisis during August 2007, the decline in interest rates is much larger.  According to Treasury Direct, the average interest rate on total marketable treasury debt was 4.946%.  This compares to 2.130% in July 2012.  A decline of 2.836% or 3 times as much as used in the Deutsche Bank analysis.

But even this understates the decline as Treasury Direct assumes in calculating its average interest rate that an equal dollar volume of Treasury Bills, Notes and Bonds is issued.  In reality, far more Bills than Bonds are issued.  The decline was 4.735% for Treasury Bills (2012 July Treasury Bills 0.124%; 2007 August Treasury Bills 4.859%) or almost 6 times as much as used in the Deutsche Bank analysis.

Said another way, the direct cost to savers of central banks artificially suppressing interest rates is almost $100 billion per year.

But that is not the only cost.  By definition, savers save.  These are the individuals who are most likely to make up the loss in earnings on their savings by saving more.  To offset the loss in income on their savings, these individuals need to cut back on their consumption by $100 billion.

This $100 billion decrease in consumption represents a headwind to growth in the real economy.

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