Fed Policy: From ZIRP to NIRP?

In the third quarter last year, I wrote at least two articles that used the acronym ZIRP, which stands for ‘zero interest rate policy.’  At the time, all of the conversation was about how the Fed was ending ZIRP with their first interest rate hike in seven years.

Today is the two-month anniversary of the hike and the discussion has moved from ZIRP to NIRP, which stands for ‘negative interest rate policy.’

Denmark, Switzerland and Sweden were the first central banks to impose negative policy benchmark rates last year.  The Bank of Japan (BOJ) shocked markets in January by joining the list of NIRP countries and depending on what rate you look at the European Central Bank (ECB) is either already a NIRPer or will be any minute.

Central bank policy divergence was one of the key themes of 2015 and the market is now wondering if we can really diverge much more than we already have.  At this point, the market sees almost no chance of any interest rate hikes here in the US this year and a few people are calling for lower rates.

The question of whether we would pursue negative interest rates started bubbling up last month when the Federal Reserve released their bank stress test scenarios last month and one of them included an 18-month period of negative interest rates.  The Fed isn’t saying that this is coming, but they are clearly wondering whether banks can withstand this kind of policy action.

Last week, when Janet Yellen sat before Congress, she was quite candid about the possibility, saying, ‘We’re taking a look at them … I wouldn’t take those off the table.’

While she did say that she wasn’t sure about the legality of negative rates here, she said that the Fed would investigate negative rates and that she didn’t expect the economy to be in a situation that required negative rates anytime soon.

So far, markets agree based on option for December 2017 Eurodollar futures, which put the odds of negative rates at 16 percent.  In September of last year, the odds were around 10 percent and then fell to around three percent by year end.  So while 17 percent is still low, it does represent and substantial change over the past month and a half.

My sincere hope is that the Fed does not even come close to lowering interest rates to negative levels.  In fact, I hope they stand pat and do nothing at this point – I hope they keep rates the same and don’t engage in any more quantitative easing.  In fact, I would prefer it if they didn’t reinvest the interest payments and maturities on bonds currently on their balance sheet.

I would like the Fed to nothing at this point.  Zero, zip, zilch, nada… The big goose egg.  At some point, I want them to raise again, but I’m not sure we’re ready for that either given what’s going on in the world, but I don’t think it’s on their agenda anytime soon.