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Monday, March 24, 2008

Negative interest rates

I thought it was weird enough that the U.S. Treasury inflation-protected securities were offering a negative return -- in other words, if inflation is 3% per year, the government will pay you 2.9% interest, so you are gauranteed to lose. Plus, this interest is taxable.

Now I'm reminded that this has happened more severely before. Japan had a negative interest rate [not inflation adjusted, but an actual negative rate] for a while in 1998. As reported in the N.Y. Times at the time

This week, investors have bought short-term Japanese Government bills that have negative yields. In other words, they are paying more money than they can expect to earn when the bills mature in six months, in effect paying simply for the privilege of holding bonds.

Likewise, a few foreign banks are paying interest, instead of earning interest, for clients to borrow their money.

In some countries, bank depositors have occasionally earned negative real interest rates, meaning that their yields were less than the inflation rate. But this is much more rare: the nominal interest rate is negative.

''We've basically never seen this before,'' said William D. Campbell, a strategist with J. P. Morgan in Tokyo.

The slide below zero shows how some investors have become so downbeat about the Japanese economy that they are willing to invest only in Government bonds, the safest bets in the country. It also means that there are so many yen around that some banks, mostly foreign banks, are willing to pay someone to take them off their hands for a time.

The current environment creates challenges for people like me who are trying to save for retirement. Lots of stuff looks unsafe. What looks safe has little or no return. Plus, shifting from stocks to cash results in selling the stock and thus producing taxable gains.

I think my financial goal for 2008 is to avoid going too far backward.