The European Central Bank (ECB) has cut its benchmark interest rate to a record low of 0.25%, down from 0.5%. Negative interest rates reinforced the effects of our asset purchases for the same reasons: when banks’ excess reserves are remunerated at negative rates, there is a strong incentive to reduce them by shifting into riskier assets, such as longer-dated government bonds. Get an overview of what the European Central Bank does and how it operates. Dig deeper into the ECB’s activities and discover key topics in simple words and through multimedia. The European Central Bank (ECB) has cut interest rates for the first time since 2016, while introducing a sweeping stimulus package in an attempt to kick-start a lacklustre eurozone economy and stave off recession. This effect is particularly pronounced for banks with a high deposit-to-asset ratio. The propagation of a rate cut in negative territory was therefore materially stronger along the yield curve than for a conventional rate cut, which typically has very little impact on longer maturities. Here’s what it means for you. The euro fell to its lowest level in more than a week on the news. Sustained demographic shifts, global excess savings and a slowdown in productivity growth have all contributed to a secular decline in the real equilibrium rate of interest over the last 20 years in most advanced economies, though estimates are fraught with a considerable degree of uncertainty (Chart 1).. Find out how the ECB promotes safe and efficient payment and settlement systems, and helps to integrate the infrastructure for European markets. The ECB, which kept interest rates on hold on Thursday, said it saw rates at current or lower levels until mid-2020. A second concern is the effect of negative policy rates on banks’ risk-taking behaviour, induced by a search for yield. , In the extreme, the effect could be such that banks charge higher interest rates on their lending activities, thereby reversing the intended accommodative effect of monetary policy. In addition to cutting its benchmark deposit rate by 10 basis points to -0.5 per cent, the ECB has reintroduced a massive quantitative easing program, starting from November. This “hot potato effect” also extends to bank loans, which was the second objective of lowering rates into negative territory. The current ECB interest rates on its main refinancing operations, marginal lending facility and deposit facility sit at 0%, 0.25% and -0.40% respectively. We are always working to improve this website for our users. These search-for-yield effects are stronger for less capitalised banks, which could raise concerns for financial stability. In explaining the ECB's decision, Mr. Draghi pointed to lower inflation forecasts and slowing economies throughout Europe, in addition to the "persistence of downside risks", as factors influencing the bank's decision to cut rates. As this chart shows, the euro tumbled after the ECB cut interest rates at 12.45pm BST, and then continued to weaken as the asset-backed securities plan was announced.  But even though the borrowers of high-deposit banks show a higher volatility of returns, they exhibit lower levels of leverage and the same level of profitability as the borrowers of low-deposit banks. For example, Heider, Saidi and Schepens (2019) show that the introduction of negative policy rates by the ECB induced high-deposit banks to incur more risk by lending to borrowers with a larger return-on-assets (ROA) variation than low-deposit banks (Chart 12). The widely-expected cut … The European Central Bank’s surprise tweaks to monetary policy amount to an effective interest-rate cut that puts banks on the frontline of the euro area economic recovery. Discover euro banknotes and their security features and find out more about the euro. Both cut their main rates by half a percentage point, a significant move. In my remarks today, I will review the ECB’s experience with its negative interest rate policy (NIRP). A chart of the ECB's interest rate cuts, including September 12, 2019. The first is the adoption of a two-tier system through which a significant portion of excess reserves are exempt from negative rates. The ECB, for its part, tailored its non-standard measures to the structure of the euro area economy, where banks play a significant role in credit intermediation. That said, the experience of the euro area over the past few years suggests that the positive effects dominated, supported by the use of other policy measures that directly mitigate the costs of negative rates. Yet, data on the volume of overnight deposits held by households in the euro area confirm the negligible pass-through of negative policy rates to banks’ retail deposit rates (Chart 7). The European Central Bank (ECB) has cut interest rates for the first time since 2016, while introducing a sweeping stimulus package in an attempt to kick-start a lacklustre eurozone economy and stave off recession. As the market started repricing the full expected future interest rate path, the effects of the cut in the DFR extended well beyond short-term rates. Discover more about working at the ECB and apply for vacancies. A negative second quarter growth figure now looks like a possibility. Empirical evidence suggests that negative rates ultimately delivered on both objectives. Second, negative rates can have side effects on banks’ profitability and risk-taking behaviour. They get paid to borrow money, while we are paying interest!".  As experience with negative interest rates was scant, the ECB proceeded cautiously over time, lowering the deposit facility rate (DFR) in small increments of 10 basis points, until it reached -0.5% in September 2019. The second is our TLTROs through which banks can secure borrowing at highly favourable rates, provided they extend sufficient credit to the real economy. First, the ECB’s negative interest rate policy has been successful in turning the zero lower bound into an effective lower bound well below zero and supporting bank lending. Bittner et al.  This strengthens the portfolio rebalancing channel of asset purchases. In spite of these positive effects on the effectiveness of monetary policy, the NIRP has often been criticised for its potential side effects, particularly on the banking sector. 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