Ex-BIS Chief Economist William White Warns “The system is dangerously unanchored”

Here are juicy excerpts from an interview of former Bank for International Settlements chief, William White, by Finanz and Wirtschaft where the former expresses alarm bells over the Swiss SNB’s negative deposit rates and the de facto global easing policies. (all bold mine; italics interviewer) [hat tip zero hedge] 

By the way, Mr. White predicted the crisis of 2008. [note this isn't to say past is the future, rather, Mr. White's ability to foresee the future has been grounded on relatively "sound" analysis compared with the mainstream]

Will the rate cut of the SNB lower the domestic interest rate level in Switzerland even further?

WW: Maybe yes, maybe no. One argument is, if you lower the rate set by the central bank, then all the other rates will follow. My reaction is: Not so fast, my friend! The Swiss banks are now suffering losses on their reserves at the SNB. Banks could reduce interest rates on deposits to recoup these losses. But this has clear limits: People do not have to hold money at banks, they can ask for their money in notes. The banks could also recoup their losses in a different way, and this is something to be concerned about: They could raise the rates on loans. Far from encouraging lending and spending, negative interest rates at the central bank might work in the opposite direction.

So negative interest rates could actually increase the cost of borrowing?

WW:When interest rates cannot go lower anymore, when they hit the Zero Lower Bound, monetary policy might work like quantum mechanics. Take this simple example from the world of physics: Classical Newtonian mechanics only work when the mass of a body is big enough. When the mass is too small, you are in quantum mechanics. These are completely different ways of looking at the world. The Zero Lower Bound might be the quantum mechanics of monetary policy. Things just do not operate in the same fashion. If you think things do operate the same way, you might make a very dangerous mistake.

But will Swiss banks really increase loan rates now?

WW: I do not know. The banks might swallow the losses for some time. They may decide, as the SNB likes them to, to put their money in some other currency in which they do get a positive return.

By holding a one-sided peg of the Franc to the Euro, the SNB has in effect linked its monetary policy to the ECB. How will the SNB ever be able to decouple from the ECB?

The hope is that at some time the pressure on the Franc will come off, when interest rates rise elsewhere. Then the SNB could gradually reduce their exposure to the Euro. That may be a while.

Do you have an idea who will win or lose from negative interest rates?

WW: The banks will lose as they have to pay rates on their excess reserves they hold at the central bank. The public sector, the SNB, will gain. If the banks do not push down deposit rates, but increase the loan rates, the borrowers will pay the price. And when interest rates go down, savers will suffer.

The SNB has to follow the ECB in its monetary policy. Is it not dangerous when the monetary policy of one country affects another?

WW: Currently we have an international monetary non-system. Nobody has to follow any rules. Everybody does what they consider is in their own short-term best interest. The real difficulty is: What is in their short-term interest – for example, following ultra-easy monetary policy – could well backfire somewhere. It might be not in their long-term best interest. And as the easy monetary policy influences the exchange rates, it influences other countries. Almost every country in the world is in easing mode, following the Fed, and we have absolutely no idea how it will end up. We are in absolutely uncharted territory here. This worries me the most. The SNB has been doing well in what it was forced to do by this international monetary non-system. The Swiss have to do the best they can, because that is what everybody else is doing.

What are the risks of this non-system?

WW: There is no automatic adjustment of current account deficits and surpluses, they can get totally out of hand. There are effects from big countries to little ones, like Switzerland. The system is dangerously unanchored. It is every man for himself. And we do not know what the long-term consequences of this will be. And if countries get in serious trouble, think of the Russians at the moment, there is nobody at the center of the system who has the responsibility of providing liquidity to people who desperately need it. If we have a number of small countries or one big country which run into trouble, the resources of the International Monetary Fund to deal with this are very limited. The idea that all countries act in their own individual interest, that you just let the exchange rate float and the whole system will be fine: This all is a dangerous illusion.

I interpret Mr.White’s point as one of saying that 

-central bankers have indulged in a grand gambit with the monetary system from which they have been pushing these monetary tools to the limits (“we are in absolutely uncharted territory here”), 

-the average citizens are guinea pigs (in the case of the SNB's negative deposit rates; banks, borrowers and savers lose as the public sector gains--arbitrary confiscation that benefits a few at the cost of many), 

-that such gambit has signified an act of desperation (“forced to do”) predicated on path dependency and the bandwagon effect (“because that is what everybody else is doing”) and 

-that central banks have entirely been clueless of the risks and ramifications of their actions, where the policy trend have been focused on short term fixes (“The system is dangerously unanchored. It is every man for himself. And we do not know what the long-term consequences of this will be”)

Stocks may be at record levels for NOW, but at what costs in the future?