Rates Keep Dropping: What Would Negative Interest Rates Mean for Real Estate?
Last year, low inflation caused central banks in Europe and Japan to adopt negative interest rates as part of an offsetting effort. In real estate markets, banks in Denmark and Finland responded to negative and low interest by offering mortgages with zero or even negative interest rates.
In the U.S., as we see historically low interest rates today, the debate looms about what potentially negative interest rates could mean for markets, and the impact it would have on commercial real estate, which is seeing increased development activity. In the fourth quarter of 2019, the National Association of Realtors (NAR) reported commercial real estate construction activity in square feet was up 5% from the year prior.
“Given the low level of interest rates, [respondents] reported an improvement in conditions related to obtaining debt (60%) and equity financing (57%)," said the NAR.
President Donald Trump has said negative interest rates elsewhere make it hard for the U.S. to compete, advocating for similar rate strategies. Meanwhile, JPMorgan Chase & Co CEO and Chairman Jamie Dimon cited negative interest rates as “keeping him up at night."
The Positive: “Money for Nothing"
Negative interest occurs when clients pay a fee to keep their money in a bank. It favors borrowers, courtesy of decreased costs, and less overall payment. A borrower-friendly environment is one that President Donald Trump touts and encourages.
In late 2019, he Tweeted: “The Federal Reserve should get our interest rates down to ZERO or less, and we should then start to refinance our debt." He reaffirmed this stance while speaking at the World Economic Forum in Davos, Switzerland, in January, when he praised negative interest rates, adding that getting paid to borrow money was something he “could get used to very quickly."
Lower interest may also provide the potential for an increase in cash-on-cash returns. Commercial real estate investors find this attractive because as the demand rises, so does the possibility to charge more money for a property in the longer-term.
The Less Positive: Uncertainty
Finance and markets are all about pendulums. Negative interest rates are often a boon for borrowers, but some note that overall, consumer confidence tends to waffle in negative interest rate environments. This hesitancy can show up through cuts in spending and sluggish investing practices.
At the 2020 World Economic Forum, Dimon said that negative interest rates are part of what keeps him worried, telling CNBC's Squawk Box, “The only thing I have trepidation about is negative interest rates, QE, and the diversion between stock prices and bond prices and yield."
“It's kind of one of the great experiments of all time, and we still don't know what the ultimate outcome is," Dimon added.
The outcome remains to be seen, but with inflation currently in the 2% range and the U.S. economy expanding rather than contracting, a negative rate environment is unlikely. Despite that, real estate investors can continue taking advantage of the current low rates in the meantime.