Negative Interest Rates and Bank Performance


Interest rates are often seen as the cost of capital advanced to borrowers. In the banking sector, this tenet of borrowing is keenly monitored because it dictates the profitability of a financial institution. In other words, the higher the interest rates, the higher the likelihood that a bank would make profits and, similarly, the lower the interest rates, the lower the likelihood that investors would get a high return on their capital. The idea of having negative interest rates on the economy is an unpopular economic concept considering the lender bears the risk of default. However, as has been evidenced through several research articles, central banks could run out of options to jumpstart their economies and instead choose to pay people to borrow money (Castro et al., 2020; Moya-Martínez, Ferrer-Lapena and Escribano-Sotos, 2015).

Some of the most recent cases have been documented in Europe and several Asian countries. For example, in 2009, Sweden imposed a negative interest rate of -0.25% to stimulate the economy (Moya-Martínez, Ferrer-Lapena, and Escribano-Sotos, 2015). Five years later, the European central bank also adopted a similar approach by setting a negative interest rate of -0.1% to stimulate the economy as well. In Asia, Japan provides the most recent example of how governments can impose negative interest rates to encourage investments. Cumulatively, it is estimated that Asian and European countries have $9.5 trillion in debts, which are tied to negative interest rates (Wijk et al., 2019).

Since the imposition of negative interest rates is an unconventional approach to saving economies, governments have been excused for adopting such aggressive monetary policies. For example, in the European case highlighted above, the central bank was justified to set the interest rates negatively because it was protecting the economy from a deflationary spiral. Broadly, research studies domiciled in the field of behavioral economics suggest that people tend to hold on to their money during times of economic uncertainty (Castro et al., 2020; Moya-Martínez, Ferrer-Lapena and Escribano-Sotos, 2015). However, this type of behavior is counterproductive to the economy because it causes a decline in spending, which could lead to a slump in demand, thereby forcing businesses to lay off workers. Knowing the potential of these outcomes to suffice, most people are fearful of spending their money in such an economic environment. The problem is further compounded when these fears are reinforced through a further decline in pending and job losses. Therefore, it is justifiable to impose negative interest rates in these circumstances

Based on the different effects of interest rates on the banking industry, the impact that negative interest rates would have on the performance of these institutions and the overall stability of the economy is often in doubt. However, based on a review of the works of Geng et al. (2016), Castro et al. (2020), Moya-Martínez, Ferrer-Lapena, and Escribano-Sotos (2015), it is established that negative interest rates have an equally negative impact on the banking sector. This is because it often has a direct adverse impact on interest margins. Consequently, banks experience a decline in profitability because of the following factors:

Cost of Hedging

As part of their risk mitigation strategies, banks often hedge the risks of loan defaults. This activity is typically associated with auxiliary costs, such as insurance and risk assessment expenses. Sometimes, financial institutions also contract the services of third parties or professionals, such as actuaries, to underwrite these risks (Shrivastav, 2019). When there is a negative interest rate in the market, the cost of hedging increases, thereby undercutting the bank’s bottom-line profitability. The high cost of hedging is often brought about by increased levels of uncertainty in the market (Fernández-Méndez and González, 2019). For example, the risk-based pricing model that is often used by banks to hedge their risks becomes more challenging to justify because of uncertainties brought by negative interest rates on the economy.

At the same time, institutions that offer substitute products in the market, such as insurance firms, get a competitive edge over their banking counterparts because they could offer customers mortgages at more affordable rates than banks (Schmeiss, Hoelzle, and Tech, 2019). Comparatively, banks have to charge high mortgage rates to offset the risks caused by negative interest rates. The market is also likely to experience a scarcity of investment opportunities when there are negative interest rates, thereby exacerbating the problem of risk mitigation.

Even more impactful is the impact that negative interest rates would have on the bank’s interest margin business. Relative to this assertion, Ding and Sickles (2018) say that negative interest rates have significantly contributed to the decline of net interest margins for banks, which is a key source of revenue for them. In this situation, the financial institutions are more likely to suffer from the effects of negative interest rates because they cannot pass this cost down to individual customers as clients have the option of withdrawing their money and keeping it in cash. Therefore, they have to bear this cost alone. This capital structure of banks implies that their profitability is likely to be negatively affected when there is a negative interest rate in the market.


Market uncertainties are often associated with higher costs of doing business and suppressed economic activities. Having negative interest rates means that there will be heightened anxiety in the market regarding the potential effects of such a paradoxical policy on the economy that investors would be fearful of keeping their capital in such a market (López-de-Foronda et al., 2019). Furthermore, the imposition of negative exchange rates already means that the economy is underperforming and the central bank intends to revive it or prevent its failure. Whether the effects of the negative interest rate will materialize, or not, remains to be seen because it is difficult to predict how the market would respond to such an eventuality (López-de-Foronda et al., 2019).

The uncertainty caused by negative interest rates is likely to cause instability in the markets because players would have adopted a defensive position in the industry to see the effects of such a policy. It is also difficult to predict which sectors of the economy would benefit from the imposition of low-interest rates, thereby making it difficult to estimate the impact of such a policy on different industries (Buy, Boone, and Wade, 2019). The trouble of measuring the impact of negative interest rates on the economy stems from research investigations, which have shown that such policies also have a positive impact on the growth of some economic sectors (López-de-Foronda et al., 2019). Particularly, the ones that needed an urgent capital injection and were contained by prevailing market conditions, which made it difficult for them to obtain credit, could benefit significantly from negative interest rates (Bogers et al., 2019).

Some researchers believe that negative interest rates would be detrimental to the economy, as they would stifle creativity and encourage laziness among entrepreneurs (López-de-Foronda et al., 2019). However, this outcome does not always suffice for all economic sectors. Based on the difficulty of estimating the full impact of negative economic policies on this type of environment, it is imperative to acknowledge the uncertainty caused by negative interest rates on the fiscal stability of an economy.

Competitive Threats and Opportunities of Big-tech and Fintech Companies for Banking Intermediaries and the Implications for Financial Stability

The growth of technology has brought innovation in different aspects of business performance because of the emergence of Big-tech and Fin-tech companies. Big tech companies are technology-based enterprises, such as Microsoft and Amazon, which control largescale operations in e-commerce around the world. Comparatively, Fintech companies, such as Pay Pal, are equally associated with technological growth but are fixated on one industry, such as finance (Tveten, 2019). Banking intermediaries are also likely to benefit from this movement because they act as channels through which employees can invest their money. They are also custodians of their customer’s wealth. The following sections of this paper are designed to analyze the competitive threats and opportunities of Big-tech and Fintech firms in the global economy.


Although people have different views regarding the impact of technology on business, it has created new opportunities in market growth and development that would otherwise be unimaginable without the internet. Consequently, most Fin-tech and Big-tech companies have a global appeal, as opposed to a domestic or national outlook (Tredinnick and Laybats, 2018). For example, although Pay Pal is an American company, it processes payments for customers who are spread around the world. The global nature of the e-commerce market has been made possible through technological advancements adopted in the industry (Rai, Dua, and Yadav, 2019).

Market expansion through e-commerce means that it is difficult to think of a localized approach to business development for Fin-tech and Big-tech companies because it would constrain their operations and underutilize their capabilities. Therefore, the main types of products that are sold by these customers must have an international appeal. For example, Microsoft’s Windows 10 software, which is produced by a Big-tech firm, has always used an international template to design its software, as opposed to employing one that would only be understood in its parent market –America. Therefore, it is difficult to think of a localized perspective of market appeal when evaluating the impact that technology has had on the market. In this regard, technological development offers new opportunities for Big-tech and Fin-tech firms.


One of the biggest challenges associated with the fiat currency model, which is linked with many central bank actions is the unreliability of its currencies, subject to ongoing political and economic forces. This monetary system means that institutions and customers who do not operate using the fiat currency model are likely to be excluded from the current system, as presently designed. However, Fin-tech has changed this situation and made it possible to complete legitimate online transactions without using hard currencies. Instead, the model proposes the use of alternative digital currencies, such as Bitcoin and other block-chain technologies, which allow online merchants to sell their goods and services in exchange for these digital coins, which are transacted online (Chalmers, MacKenzie and Carter, 2020). This advancement in financial innovation threatens the traditional monetary structure, as it is known today because it eliminates the need for central control of currency movements, which is typically the case with fiat currency (Chalmers, MacKenzie, and Carter, 2020). Consequently, an alternative model of currency is proposed and it only includes the two parties involved – the buyer and the seller.

In the fiat currency model, there are three parties involved – the buyer, seller, and the government. The role of authorities in this context is to guarantee the legitimacy of the transactions, but with this regulatory control, buyers and sellers lose the power to effectively control, all aspects of the exchange because they cede some power to the government to legitimize or guarantee the transaction (Serrano-Bedia, López-Fernández, and García-Piqueres, 2018). Fintech eliminates this need for government guarantees and maintains the transactions deal between the buyer and seller only. This model of business transactions threats the stability of the current banking system, as known today, because it offers an alternative model of completing business transactions. However, no other industry has witnessed massive changes as the financial industry has done based on the impact of Fintech on global commerce and development. Particularly, the growth of Big-tech companies, such as Amazon and Google have shaken the global commercial space having control of most aspects of information flow and retail distribution services in the world.

It is difficult to ignore the role of Fin-tech in making all this possible because Big-tech companies have consistently relied on new technology and innovation from Fin-tech to expand their markets and serve more customers (Singh and Maiti, 2019). More importantly, they have relied on Fin-tech to take control of the most critical aspect of Big-tech performance, which is how to send and receive payments. From the progress made on these fronts, Big-tech has grown in prominence and influence over the years. As such, its growth has brought competitive threats and opportunities to the marketplace in ways that were otherwise unthinkable a few years back. This paper will analyze the competitive threats and opportunities of Big-tech and Fintech companies. The analysis will be subjective to the influence of these developments on banking intermediaries and the overall financial stability of the economy.

The Main Effects of the COVID-19 Pandemic on Banks and Financial Stability

The Covid-19 pandemic is perhaps one of the most consequential healthcare emergencies to have occurred in the 21st century. Characterized by the cessation of movement for people, cargo, closure of airports, and lockdowns, few businesses have escaped the effects of the crisis (Manolova et al., 2020; Alon, Farrell, and Li, 2020). Consequently, different economic sectors have been affected in varied ways and the full extent of the effects are yet to be understood. However, the banking and financial sector is one industry that comes into focus because of its centrality to the economic wellbeing of any nation. Indeed, it is through this sector that some of the worst economic crises in history have been precipitated or controlled. Concisely, the banking and financial sector plays a critical role in understanding the economic welfare of a state. In the next sections of this paper, the main effects of the Covid-19 pandemic on banks and the overall financial stability of the economy will be explained through the increase in job losses, an expansion of the share of non-performing loans on the bank’s balance sheets, and low demand for financial products.

Job Losses

The Covid-19 pandemic has led to massive job losses in different economic sectors. For example, the tourism and hospitality industry has been severely hit by travel restrictions, which have limited the movement of people out of borders (Martinez and Jayawarna, 2020). This situation has led to untold suffering because some countries largely depend on the tourism industry to support their economies. Financial institutions in these nations are likely to experience massive rates of loan defaults because of a poorly performing economy (Cowling, Brown, and Rocha, 2020). For example, an investor who took a loan to build a hotel, hoping to service the repayments with proceeds generated from the facility would find it difficult to realize this goal in a world riling from the effects of Covid-19. Such an investor is likely to default on their loans, thereby causing bankruptcy and job losses. This outcome would cause instability in the economy.

Non-Performing Loans

The COVID-19 pandemic has also negatively affected banks by increasing their percentage of non-performing loans on their books of accounts, thereby jeopardizing their financial standing (Ramesh, 2019). When such loan defaults are widespread, banks could experience significant challenges making a profit because they rely on interest payments from these facilities to make a profit. Inevitably, they would be forced to recall existing loans but it is unlikely that existing creditors would pay as well because of the poor economic conditions described above. Therefore, when proceeds from this area of operation fail to come in, there would be a domino effect on the economy whereby the failure of one industry will precipitate the death of another and so on (Nunan, 2020). This situation describes the 2007/2008 global economic crisis because the failure of one industry (real estate) precipitated a series of crises in other industries, such as the insurance sector (Bhaird, Owen, and Freel, 2019; Alon, 2020). Therefore, the risk of loan defaults in the banking industry could harm other economic sectors as well, thereby making the economy unstable. The COVID-19 pandemic is likely to make this happen.

Low Demand

Banks would also suffer from the negative effects of COVID-19 through a suppressed demand for their financial products. This outcome would dent their profitability because banks depend on the sale of different financial products to make a profit. For example, during periods of economic boom, these financial institutions often sell loans to customers and charge interest on them. The interest payment offers an opportunity to make a profit. The COVID-19 pandemic has made it difficult to sell such loans to the public because people are fearful about the future. They are also unsure about the prospects of paying back the money in an economic environment that is yet to show the full effects of the pandemic. Without a clear plan of how governments are going to manage the economic fallout from such a crisis, it becomes increasingly difficult for banks to sustain their operations in this environment, thereby negatively affecting their performance and that of the economy.


Overall, the insights highlighted in this paper suggest that banks are likely to be negatively affected by the Covid-19 pandemic in multiple ways. The negative impact that the pandemic may have on these financial institutions is likely to affect the entire stability of the economy because its future is tied to banking performance. Particularly, there is likely to be a high rate of uncertainty caused by a poorly performing banking sector suffering under the effects of COVID-19. This outcome is similarly likely to affect the financial, stability of the economy. Therefore, there is a need to understand the scope and impact that the Covid-19 pandemic will have on the banking sector, factoring in the role it plays in enabling other sectors of the economy to function, as they should.

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