The European Central Bank is desperately trying to revive the region’s moribund economy, at almost any cost. It started buying up corporate bonds in June in hopes of making it easier for companies to borrow and invest; one in five of these bonds (pdf) are guaranteed to lose the ECB money if held to maturity, the bank said today (Aug. 3).
More specifically, 20% of the €10.4 billion ($11.7 billion) of corporate bonds the ECB bought between June 8 and July 15 had negative interest rates. Another €3 billion of company debt has been purchased since then, with plenty more negative-yielding bonds probably mixed in.
The bank was already buying billions worth of government debt and related securities, but targeting corporate bonds was intended to improve financial conditions in the real economy. For what it’s worth, corporate issuance of debt in the euro zone jumped in the second quarter after it became clear a big buyer with unlimited funds was about to enter the market. If the money raised in these issues is used to hire workers or make new investments, then it will prove effective stimulus; if it is squirreled away or used to buy back stock, not so much.
More than €1 trillion euros of debt have been purchased by the ECB since early 2015. Given the size of its asset-purchase program, it would be impossible to avoid negative-yielding bonds completely. Already a third of government bonds globally have yields below zero, as do a quarter of the euro-denominated corporate bonds with investment-grade ratings.
While negative interest rates are great for issuers—they are effectively being paid to borrow—this relatively new financial phenomenon has downsides, particularly for banks. European banks have announced relatively grim quarterly earnings over the past few weeks, with many bemoaning how hard it is to make money when interest rates are so low, compressing the “spread” between what they can charge for loans and what they must pay out to depositors.
ECB board member Benoît Cœuré warned in a speech last week that there comes a point when the detrimental effects of negative rates on banks outweigh the benefits of the institution’s bond-buying program. That point has not yet been reached, he says.