When we talk about interest rate, the most common thing that comes to our mind is the extra amount which we need to pay to lender over period of time. But, what is interest rate become negative, will lender pay us for a loan? There are lots of countries where banks are offering negative interest rates. Let’s see answer to this questions.
What is interest rate?
Rate charged by a lender due to increase in the value of asset over period of time. For example, when we go to bank to get home loan of Rs 50 lacs, bank offer us the loan at 9% interest rate over 30 years loan period. This mean that bank will receive payment of principal and interest every month from our loan. This is also prime source of earning for the bank and other lending institutions.
What decide interest rate in banking system?
Interest rates are dependent upon policy rates by central bank(like RBI). Central banks like RBI formulize monetary policy based on health of the economy, and thus decide on repo rate (amount at which it lend money to bank) and reverse repo rate (amount at which it borrow money from bank).
If economy of the country is in slowdown, RBI (or central bank) will try to increase liquidity and borrowing by lowering interest rate. Extra supply of money in the market will boost up consumption and stimulate growth of country’ economy.
When will interest rates become negative?
When central bank (like RBI) feel that there is no chance of growth in the economy, and there are deflation happening in economy (when inflation is more than interest rates), central banks goes for negative interest rates.
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What is benefit of negative interest rates?
The main purpose of negative interest rates are not that lender will pay you money, but banks will discourage you from making deposits. You will have to pay to bank from making deposits, in positive interest rates you will earn from saving deposits. The main idea of making interest rates negative is to boost up consumption, but compulsory putting money in the hand of consumers. The more people spend, the more the economy grows.
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Does negative interest rate solve any purpose?
As of now, following central banks are offering negative interest rates.
- Swiss national bank
- Bank of Japan
Studies have shown that keeping interest rates will have no visible change in economy.
We have covered concept of negative interest rates and reason for adopting this monetary policy. If in case you have any doubt, please write in the comment below.
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