The European Central Bank has discussed charging lenders for the privilege of putting money on deposit. It would be a radical move, enacted through negative interest rates, aiming to encourage banks to lend to the real economy. But such a policy should be embraced with care.
Demand for credit in the Euro zone is still weak so this may be a solution in search of a problem. Even if negative rates did spur lending, funds might not reach the small- and medium-sized firms in peripheral Europe which still cite financing as their biggest problem.
The nightmare scenario would be a complete policy backfire. To recoup the margin lost to negative deposit rates, banks might become more selective in their lending, and even try to raise rates for higher-risk borrowers - the very ones who are struggling to access funding. Credit would become costlier, or less available, for euro zone borrowers. And, this assumes the ECB's belief that banks' computer systems can handle negative rates is justified.
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It would also probably trigger a drop in the euro, which is close to two-year highs in trade-weighted terms. True, the ECB has shown no apparent interest in weakening the currency. But any depreciation would be useful, helping growth by supporting exporters and fighting disinflation by upping the euro-denominated price of imports.
With so many drawbacks and only limited benefits, the ECB shouldn't be hasty. Any reduction in the deposit rate will influence market behaviour more than lending and so would be best combined with other measures to subsidise funding to small firms. Still, with Germany resistant to quantitative easing, a small negative move could be a safe way of delivering a strong signal.
