Maybe negative yields are a sign of prosperity

That is the counterintuitive take from my latest Bloomberg column.  Here is one part of the argument:

Perhaps the most overlooked point is that the supply of negative-yielding securities is not so large relative to total global wealth. A recent Credit Suisse estimate suggested that global wealth could reach $369 trillion by 2019, reflecting growth rates of perhaps 7 percent a year. Such numbers are typically inexact, because who can measure the value of all the land in China and the buildings in Uzbekistan? Nonetheless, this number is truly large and it has been growing rapidly. By comparison, the negative-yield securities seem like not such a big deal.

Maybe it’s time we started thinking of negative securities as the equivalent of fire or earthquake insurance for that wealth. If there is truly $300 trillion in global wealth, is it so crazy to think that investors would pay a premium to buy $10 trillion dollars’ worth of insurance?

Keep in mind that if you buy securities at a yield of negative 1 percent a year, and equities are yielding 4 percent on average, your insurance cost on the safer securities is roughly 5 percent of the upfront investment.  So on $10 trillion of safe securities, that is an insurance premium of roughly $500 billion — a relatively small chunk of the $300 or $400 trillion of total global wealth.  In percentage terms it is cheaper than the homeowner’s insurance many of us pay for every day.

Observers sometimes wonder why there are so many negative yields at a time when volatility indices are not always so high. But the key to the risk-protection insight is not that the world is more volatile, which may or may not be the case at a given point in time, but rather that the quantity of otherwise hard-to-insure global wealth is significantly higher than in times past. It is worth noting that in both China and India, standard insurance remains an underdeveloped sector.

Do read the whole thing.


TC's thinking echoes my recent posts, and I am pleased to take credit for his thinking, no matter how wrong-headed that is: I've argued here, at Sumner's blog, and on Seeking Alpha that low yields are a sign of the coming "Singularity" and "Magic Kingdom" / "Post Scarcity Economics" (Star Trek economics). If a universal replicator can build anything you want for just the cost of energy, why do you need to save now? You don't, so rates are low for savings and investment. First to think of this and/or post? Enter.

Ray Lopez:

I admire you so much. Captain Kirk does too.

Possibly, low interest rates are a function of supply and demand, and the supply of capital is huge. A capital glut, just like they had when Kirk and Spock went to the planet with the sanitized perma-wars. They had Benjamin Franklins coming out of their rear apertures.

Why is there a capital glut on Earth? Maybe high savings rates in Asia, or automatic savings engines, like huge public pension plans in the U.S. and Europe. Many laws and lenders require insurance, and asset values rise, the huge pots of insurance money rises too. People in Asia save.

Then a growing number of people make so much money they can't spend it all.

However, just like enemies under phaser-fire, I am pretty sure the negative interest rates would disappear if the the BoJ, Fed and ECB (and PBoC) went to helicopter drops big time.

This would usher in earthly prosperity, and after many years, perhaps inflation near or above inflation targets.

Spock said so in Antares 9.

Very good, but surely shuttle drops of credits.

so what happens if some people with a warped fetish for barbaric relics decide to invest 1 trillion dollars in negative yielding gold and silver bullion? oh damn...nevermind

@Gabe - warped. He said warped, in line with the Star Trek theme.

@Ben Cole - I admire you too. It takes aa tough man to raise da turkey in da tropics, as you do, since they seem to be very sensitive to the smallest perturbation. I think a snake bit mine and killed it (twice so far). Cobras are a problem in SE Asia. But back to your post: your reasoning is very traditional, not at all like Star Trek reasoning, but then again Star Trek had some very traditional universal themes wrapped in a sci-fi fabric. As for helicopter drop, Friedman's original NGDPLT proposal, yes, it would do as you say, but since I think money is neutral I doubt it would affect real GDP. Real interest rates are trending down, possibly due to the reason I mention (note your reasoning is more like describing symptoms rather than underlying causes, though you mention 'huge savings' in Asia as a sort of systemic cause), and TC's post is a sort of corollary to my reasoning (TC discusses historical rates trending down, but does not say why they trend down, only that it's prudent to hold cash as an insurance hedge, consistent with "CAPM" type balanced portfolio reasoning.

Ray Lopez: as long as economies are composed of human beings, money is not neutral. People believe they can pay taxes with money, or so they will work for money. Note the explosion of the Spanish economy after they brought back gold and mostly silver from the new world. And note that Japan sidestepped the Great Depression under their brilliant finance minister leader Takahashi Korekiyo, who printed money.

Saying that money is neutral to people who sidestep the Great Depression is a bit silly, isn't it? Like putting a barefoot down by a cobra and saying that you will die someday anyway. So the result of the cobra bite is neutral!

@B.C, Thai turkey farmer: I rebutted these assertions of yours at TheMoneyIlusion, remember?

"Note the explosion of the Spanish economy after they brought back gold and mostly silver from the new world." - no, real wages peaked in Spain in 1425, before Columbus discovered America, see: Spanish real wages, estimated - Spanish real wages 1300-1850 (data from Alvarez-Nogal & de la Escosura 2013). Avg Spaniard poorer in 1850 than 1300!

"And note that Japan sidestepped the Great Depression under their brilliant finance minister leader Takahashi Korekiyo, who printed money." - no, as I told you before, the Manchurian War and mobilization for it was the reason Japan had some stability during the Great Depression, though they also suffered.

When the facts change, what do you do Sir?

So, asset prices are too low today because in the future assets will be produced by robots (including robots making robots to build assets) will flood the economy with new and better assets at prices far lower than current asset prices?

Ferengi. There I've said it. You have been warned...

This is very good. It ties the giant pool of money to low rates (something long suggested) with the common sense but new to me idea that this represents insurance.

My cash at zero percent interest is "insurance" so why not for everyone?

@anon- I think TC is using "CAPM" reasoning, which says any risk / reward profile can be approximated by a portfolio of X% stock market (SP500 index) and Y% cash. So by definition you need some cash, even if negative yielding. The specific numbers X, Y of course depending on your risk appetite. If you're young and risk non-adverse, then X is very high and Y is almost zero, whereas if you're elderly and conservative, the ratios are reversed. Of course it begs the question why anybody would not pull cash out of a bank that gives negative rates and store said cash under their mattress, where at least it will not diminish in size, but I have a very long and very good story about why not (short answer: theft of said cash from said mattress--believe me my friend, I know of what I speak as of the past few months;doing some 'probate' work in Greece now).

Can government bonds really be considered "insurance" against e.g. falling equity prices?
To what extent could/would any further rise in bond prices compensate for such falls?

The idea is that in some financial calamity, bond prices would fall less than other asset prices. They might even go up, as treasuries did during the recent financial crisis. If you have a 50/50 EQ/FI allocation and EQ experiences a 20% decline, roughly speaking you experience a 10% decline. Go visit Bogleheads. This is commonplace thinking for old people.

It's not so much portfolio insurance, it's more portfolio ballast.

To elaborate, people are not thinking so much about their long-term asset allocation as a mathematician would tell them to - they're just trying to minimize the emotional impact of their really bad days. They're more concerned about sudden shocks than 10 year periods of mediocre returns, regardless of which is actually more important to their well being.

Agee with that. Both Bogleheads and balanced funds use historic data for allocation. It is a case where doing what was right for the last 75 years can be/seem wrong in the moment.

Monte Carlo simulations, even as they try to express an uncertain future, center that future on patterns of the past. That may be fine, but it is probably a bit bond heavy.

I have no idea what this means.

I am mostly reiterating you, but noting that models use historic data. As in say, a Boglehead favorite.

(For those who don't know, Bogeheads (google for history, etc.) believe that you can never know that this time is different, or make a judgement of what stocks or bonds will do in the short term. That's all timing, and bad to them. So they use models based on long term historic data, and assume (bordering on religion) that the market will return to mean and pay out long term averages for stocks and bonds. So sure, they would be longer bonds based on long term return, rather than current return.

I'm less familiar with institutional funds, but I assume that there is going to be a past bias there as well. An analyst showing his work must show old bond data, with higher returns.)

I don't think you're characterizing Bogleheads accurately, either as a website or as a group of people.

As a website, they explicitly ban news-based portfolio discussion

"Non-actionable (Trolling) Topics" include "US or world economic policies"

If you believe economic policies (the FED) is non-actionable and trolling, you might be a Boglehead.

(I should mention that I invest essentially as a Boglehead, but that I recognize exposures to genuine regime changes.)

Good lord man! Had you ever heard of them prior to my mention of the term?

I was an active member in 2007. What drove me away was seeing posts disappear that seemed entirely reasonable questions about those time. The "no policy" rule was enforced to the degree that stimulus, recovery, and possible effects on portfolios, could not be discussed.

The ban I quoted above is a direct one from this page:

Have they moderated their moderation since then?

The ban is because they don't want their readers to become susceptible to the high emotion of current events. If you are the Anon who frequently finds himself on the left, I find it curious that in light of such work as flash boys, you would believe that you could use your 1 or 2 day old information from the Wall Street Journal to beat the market.

Do words matter? Do simple sentences mean what they mean?

Bogleheads have a pretty good strategy, but they are a bit different than most investment groups. They put "economic policy" under the same ban as "conspiracy theories."

It is right there, if you accept what words mean. You should be able to admit that is unusual.

Don't stubborn yourself too far into a corner.

No, in fact, let me back up.

I made a passing comment that should have surprised no one: investment strategies and portfolio design are based on historic data. It should also surprise no one that if bond returns have been trending downward, those historic returns would be biased high. It literally is taking an average of a downward sloping line.

But we had to play this stupid game. Playing dumb about Bogleheads, and their "economic policy" proof strategy.

If you held the government bonds to maturity you wouldn't have to worry about price changes along the way.

If I ignore economics the accounting looks okay...

You just mean that if you don't look at the prices you aren't aware of wealth you've lost or gained. You still lose or gain, though, regardless of what you think about. More practically, the principal you get back is devalued by inflation and you may be forced to sell in the middle.

If interest rates are 0% then a zero coupon bond will sell at par. So, say, you have a few hundred billion. You put it in zero coupon bonds and ten years later you get back a few hundred billion. That is your 'insurance'. Price changes of those bonds along the way are irrelevant to you.

The problem you have is that you cannot keep 'a few hundred billion' in your wallet or even a traditional bank account. You have to do something with it. Buy Apple stock? Buy real estate? All these things have risks. The bonds boils the risk down to just the danger the US itself will default.

Yes, yes, yes. Finally.

The world is rich, so nobody will get paid for the preservation of capital. You take risk, you get paid, with a large second moment around the payoff. r(risk capital) > g, dynamic efficiency preserved. You want to preserve capital, you pay a premium, r(safe asset/ numeraire) < 0, 'money' is a rational ponzi scheme.

Poses problems for the social compact gerontocracies have with their citizens, but otherwise, nothing much to see.

If only the integration of monetary theory and capital theory had been pursued with some rigour and vigour (building upon OLG + Tobin + finance/expectations) than the neo-Walrasian obsession with prices and stickiness (or lack of it), we would not be considering these first-degree-approximation explanations as novel insight.

I'm not buying insurance with a gov't bond; I'm selling it. A USG bond is a term life insurance policy on Uncle Sam. As long as he lives, he pays the premium; if he dies I forfeit the death benefit. The death benefit is paid in advance and held in an escrow account managed by Sam.

A vote for Trump, who sheds the burden of debt by Federal wealth redistribution in bankruptcy court, is a reason to sell more insurance to the Federal government, or to pay any cost to cancel the policy you issued?

Or, could it be, that other countries are seeking to devalue their currencies and we are in a game of chicken.

Today's WSJ explains it in terms of differences in foreign growth and capacity:

I suppose there's a silver lining in every cloud, and Cowen has found one. Economists at one time focused on the rate of return on productive capital (r), and expressed concern when it began to fall decades ago. In response, many economists shifted the focus to "capital" from "productive capital" (sometimes using the terms interchangeably, creating much confusion), the former including a far larger category of investment, and determined that r isn't falling (except during recessions) and is in fact rising (to rates well above the yield on Treasury bonds). Problem solved by changing the focus. But does the broader category of "capital" measure an economy's productive capacity, do returns from trophy real estate and speculative investments in companies like Snapchat measure an economy's potential for future growth? The problem here (if it is a problem) is similar to the problem of measuring an economy's total income and expenses. Not a few economists believe GDP, the long-standing measure, understates total income and expenses and they would modify GDP by adding imputed values of such things as the convenience afforded by the internet. For these economists there is no secular stagnation as "GDP" is in fact rising much faster than traditional measures indicate. What's going on here? I'm an optimist by nature, so I usually see the silver lining in the cloud. But I'm also a skeptic and am suspicious when I'm told that down is up.

Up is Down and War is Peace.

"Capital" today is the measure of monopoly power to limit the supply of productive capital assets.

The capital in ExxonMobil and BP and Aramco was most valuable when they controlled how little investment was made in productive assets like oil and gas wells.

Obama's destructive energy policy of failing to create enough FUD to prevent investment in small drillers by using Federal power to pick ExxonMobil et al the winners in threatening new oil production to eliminate profits of startups has destroyed at least a trillion in capital wealth globally by eliminating capital in ExxonMobil and BP and Aramco monopoly power to limit production.

Note Carter did the same in getting Alaska oil to market as well as lots more coal replacing oil for electricity and more important promoting energy efficiency jobs as the national energy policy. While Reagan Bush tried to reverse those policies, they couldn't get US oil production falling until 1985, but failed to kill the energy efficiency jobs, leading to massive wealth destruction in fossil fuel capital, and in Texas, for about 15 years. Bush-Cheney did their best to create capital wealth by ensuring oil production kept falling while consumption kept rising.

Insurance from what? I would suggest the greatest risk right now is seizure of assets by cash starved and over indebted governments. Low interest rate bonds are them owing you money as opposed to the other way around. And they need more tomorrow, so they dare not rock the boat.

Greatest risk to whom? The Saudi Arabian General Investment Authority? The 70 year-old with the $3m IRA? The guy in Hong Kong trying to get $10m into the US? Apple?

Maybe my own government is the greatest risk to me, a relatively young high-earner, but I'm hardly the only investor out there. I'm not very representative.

The two comments most ignorant the economics of bonds are also the most paranoid.

That is a dangerous value network in action.

But people can already buy such insurance via a number of existing alretnative vehicles so the real question is why would - yields be better. I think the better explanation was Grosses -- it's an institutional oddity where there really isn't a choice getting made here but prior institutional strucutres constaining the option set and forcing the purchase.

Also, the suggesting that they are part of prosperity seems unsupported -- if they were why did it take a global depression that is still working itself out in many ways to see them emerege?

Negative interest rates really sound wrong to me. They imply there's NOTHING better to invest in, in the entire world. And if you think every other investment is that risky, because of some horrible depression around the corner, what makes you think a government is going to survive that and be able to pay back its bonds?

But that thinking would then always apply. When interest rates on gov't bonds were 4% rates on everything else were greater than 4%. Why invest at 4% when lots of other things pay more than 4%?

There's nothing magical about negative interest rates. -1% is 2 percentage points less than 1%. 8% is 2 points less than 10%.

Because people exchange return for risk, and people have differing capacities and tolerances for risk. So again, negative interest rates suggest huge risks out there. The other explanation is we are swimming in money due to world central banks doing pretty much the only thing they do at this point, which is print money.

The only way I can explain negative yields is as a hedge against the risk of bank failure or confiscation of deposits, otherwise you could just keep it in cash and "enjoy" zero rates.

As literal cash? You have risk of theft, fire, accident etc. Safes, armed guards and so on require cost making the 'zero rate' actually negative. In the bank? The bank runs into the same problem and will eventually charge a negative rate.

The expected return on the S&P 500 Index over the next decade or so is 1%, including dividends. 10-year treasury yields 1.6%.

Expected by whom? It's more like 5-7% including dividends, subnormal but still better than Treasuries.

If you are paying 5% p.a. for homeowner's insurance I would take a look at that policy again...

This seems like a magnificent example of the dangers of choosing the wrong frame to view a problem (Interfluidity recently posted on this). Maybe the world is just getting rich, and demand is high for "insurance".

Or (frame 2): maybe the world is getting (demographically) older, and old people are clamoring for safety, and prospects for future growth are looking ever-lower. As WJC says, choose wisely! :)

All the pointers are pointing the wrong way. With the exception of the stock market which mirrors the federal money borrowed and printed that is pumped into the stock market to prop it up. The federal government has to change the data to make it look good. The official inflation rate is pretty good; once you eliminate all the things that are important. The unemployment rate is pretty good once you stop counting most of the unemployed. But if you ignore all those negative economic indicators and factor in a little la-la land then, yeah! Things don't look that bad...

Anyone who wants to stay honest, at least within their own minds, should just subscribe to PolitiFact

Read say the last 10 PolitiFact research results, and make sure you are staying true.

I read the article, and I disagree with PolitFacts. The main point that DJT Jr. made was that the headline Unemployment rate does not represent relevant level of unemployment because it does not account for people who have stopped looking for work, and we have, currently, unusually low workforce participation rate. The main counter-argument PF presented is that this is how the Unemployment rate was always calculated. Does this sound to you like an honest rebuttal?

"this is how the Unemployment rate was always calculated"
In past recession it was never that big a deal. Most recessions are turned around in 16-20 months. This one is about 8 years and counting. If we took the $10 trillion of borrowed money and the $4-8 trillion of printed money (sorry for not being more accurate but they lie to us so we don't know how much they printed) out of the so-called recovery we are actually in a depression. The old lines of people waiting for food handouts has been replaced with EBT cards. I don't see a way out of it short of allowing it all to go belly up and let the normal laws of economics fix it. A lot of people have to lose their wealth and a lot of companies big and small have to go bankrupt and be sold of piecemeal for pennies on the dollar to fix this mess. All we have done with the Keynesian borrowing and printing of money is delay the inevitable and make the situation worse. The devil must be payed.

"Let them eat beans!"
-tyler cowen 2014

"Let them eat gay marriage!"
-tyler cowen 2015

"Let them eat negative yields!"
-tyler cowen 2016

no wonder the neoliberal fakeleftist mainstream media loves this guy!

beans are a great cheap source of protein and a valuable source of natural gas.

YOU would know, eh?

Tyler is Scots-Irish. "Cowen," not "Cohen."

And I think he does have a sense of humility.

Interesting take. But it doesn't require negative rates true.

So is it that the demand for this form of insurance has increased while expected returns in equities and other alternative investments has decreased, which in combination lead to negative rates? And you would say the demand for the insurance has increased because global wealth has increased?

That seems to ignore the supply side of the equation. Why not look at global supply of government debt versus global wealth, over time - if supply of government debt has grown faster than global wealth, it seems unlikely that any recent moves in interest rates can be attributed to a relative increase in demand for this type of insurance.

You have an internal contradiction there. If the supply of government debt had grown faster than global wealth, bond auctions would go very differently. You can't have increased demand for bonds again, without the wealth being higher, again.

Those of you trying to still worry about imminent government debt problems, note that a key item in Tyler's piece is that *corporations* manage to borrow below zero. Certainly that says that money(*) has nowhere else to go. (I presume that investors at zero and negative interest rates feel they are also "fully invested" elsewhere.)

* safe money, safe-ish money, insurance money, take your pick.

Depends on what exactly is meant by "If the supply of government debt had grown faster than global wealth"

The Economist has global public debt going from $26 trillion in 2005 to $56 trillion in 2015.

Page 14 of this report has a chart with global wealth right around $160 trillion in 2005 and $250 trillion in 2015.

That would put global public debt at about 16% of global wealth in 2005 and 22% in 2015.

So in terms of both rate of growth from their base, and their ratio, global public debt has grown versus global wealth.

In absolute terms, global wealth increased $90 trillion while public debt increased $30 trillion.

I'm not sure what is best to look at to see if Tyler's story works. I would think the ratio - that gives us a "supply of global public debt as a share of global wealth" figure, and shows that a substantially larger portion of global wealth could be invested in public debt today than ten years ago. If despite this increase in relative supply, the demand for public debt has increased to such an extent that interest rates are negative, it doesn't seem like the move in rates is properly attributed to increased wealth/prosperity.

To be clear, I didn't mean to imply that I thought global public debt had grown more in absolute dollar terms than global wealth. I didn't think we had added $20 trillion in debt and $15 trillion in wealth. It seems like that may have been how you interpreted me, and that was not my point. I was thinking that the ratio of public debt/global wealth had likely increased, and that is borne out by what I've linked above.

Or, I guess, it can only be attributed to increased wealth/prosperity if there is a different level of demand for this type of "insurance" among those with this newly-created wealth than among prior wealth-holders.

OK, I missed that meaning. But yes I think we all agree that capital is allocated differently. China. As mentioned above, large funds. The rise of the billionaires.

In other words, capital is no longer scarce the way it was still in the 50s.

And why is that? Post-scarcity economics, see upstream. Don't just describe the symptom ("capital is cheap, savings are plentiful"), but examine the underlying reasons why.

Most tech companies are sitting on piles of cash ( Apple/Google) they seem to have trouble finding good investments

It's because we have been accumulating lots of capital for the past 70 years. Has the proportion of world capital to world GDP stayed the same or changed? (There's no reason why it should stay the same.)

If we take this insurance perspective on government bonds, what is the impact of increasing inequality on the relative demand for government bonds?

Presumably the desire for the kind of insurance described by Tyler does not scale linearly with wealth. In what way does it change?

But I guess if we really want answers, we should look at who is investing in government bonds generally, and who is investing in negative-yielding bonds in particular. I've poked around a bit and can't even find general numbers on who owns public debt globally. What if it's mostly governments - is it still reasonable to see this as wealth insurance if it's mostly governments that buy public debt and negative yielding debt in particular?

Increasing inequality should increase saving, as the share of income going to the wealthy increases. They have diminishing marginal utility of wealth. They will save more

Which is easier to alternatively store an account subject to negative deposit rates- a billion Euros of physical cash, or a billion Euros of German bonds in an electronic account?

It isn't really surplus of great wealth or even insurance, at least not as a net change- what we are seeing is what happens whenever there is more and more cash chasing fewer things to buy within a given market- in this case sovereign debt. Given that a number of institutional players have no real options legally, it shouldn't surprise one to find negative yielding bonds- the financial system is being badly deformed and will eventually break violently. Then Tyler can console us about all the wealth we were protecting.

And one has to wonder whether or not Tyler would write a similar post about gold in a bull market? I have my doubts.


If I remember correctly, a common refrain of yours after the Lehmann crisis was "we weren't as wealthy as we thought we were?" Might we be overpaying for insurance today?

Great post, Tyler. The global negative interest rate environment is a fascinating and underrated topic.

I still don't understand why profit-maximizing institutions -- or anyone, really -- is investing in anything with guaranteed negative yields instead of simply staying in cash, beyond portability or regulatory holding requirements. Is cash simply not an option at large amounts?

Separately, if global wealth really is ~$300T, then that means per-capita wealth is $40,000 per person. Interesting.

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