MNI POLICY: NIRP works, but fiscal key to EZ growth - Schnabel

The positive effects of negative interest rates on inflation have outweighed their side effects, the European Central Bank's Isabel Schnabel said in a speech Wednesday, though experience suggests that without sufficient fiscal support the euro zone could face depressed economic growth and a further decline in the real natural rate of interest.

Negative rates have been effective in stimulating the euro area economy and raising inflation, Schnabel, a member of the ECB's Executive Board told the 35th Congress of the European Economic Association, while their negative effects have been compensated for by the two-tier system and targeted longer-term refinancing operations (TLTROs).

ECB staff analysis based on a sample of large euro area banks showed negative rates had had a "negligible" effect on bank profitability over the period from 2014 to 2019, she added, with the negative effects from lower net interest income and the charge on excess reserves "broadly compensated" by a reduction in loan-loss provisions.

Schnabel pointed to recent studies suggesting that while negative policy rates may increase risk-taking for some banks, raising possible cause for concern among those less capitalised banks buying high-yield securities, those risks were in part offset by lower levels of leverage and the effects of increased investment and employment.

"Higher risk-taking by banks may be a feature rather than a bug, as long as it does not raise financial stability concerns," she said, though it "cannot be taken for granted that negative effects on bank profitability from depressed profit margins can be compensated by lower loan-loss provisions also in the future.

"Absent a forceful policy response, the current pandemic is likely to put substantial pressure on banks' profitability due to rising loan-loss provisions and defaults, at a time when euro area banks' profitability is already depressed, mostly due to structural reasons.

"At the same time, like with other unconventional policy measures, side effects are likely to increase over time, if the negative interest rate environment were to persist for too long."