No matter how the economy fares, banks rarely go into a deficit. Despite lending billions of dollars, banks are always thriving. That is possible because they have mastered the game of currency and finances. Hoarding cash used to be the oldest trick in the hat. As interest rates go down, banks start to store cash to save themselves from a massive blow. It seems like they always have a backup plan.
It wasn’t too long ago that many European countries, including the UK, introduced the concept of negative interest rates which means that banks had to pay money to lend money to the government trying to get out of recession. This basically means that not lending costs more than lending. The governments were trying to push start the lending game despite the recession.
So, how did the banks get out of the sticky situation? Simply by storing cash.
Why Do Banks Store Cash?
Banks store cash to avoid a negative interest situation. When there is a risk of interest rates going below 0, financial institutes are unable to make any profit on lending. That is when most of them stop lending, creating a further risk for the overall economy. Two years ago, the government, like in the UK, tried to overcome this situation by making not-lending even more expensive, i.e. by charging a levy on the funds held by the banks. That is when storing cash can turn in the favor of banks. By storing cash, we mean hiding piles and piles of it.
How Much Cash Was Stored in Europe?
It is estimated that, during 2016, European banks actually hid billions of worth in cash to avoid lending during the negative interest rate period.
Now, this may take you back to the good old Bond movies with villains transporting their fortune in huge trucks and sending them to secret caves. This may sound like a vile scheme from the banks, but storing cash actually makes sense. Taking a look at what actually happened in Europe, let’s start with some hard facts and figures. Private sector banks in Europe were paying around 0.4 percent annual levy on the funds they kept. This policy cost the banks more than 2.5 billion euros in just two years. On the other hand, the government introduced an incentive to encourage lending to businesses and start-ups. Still, the policies weren’t working in favor of private sector banks.
The easiest way for the banks to hide their funds from the government was to turn the traceable electronic money into hard cash and hide it somewhere it cannot be found by the feds. Munich Re, a known German lender, has said to have stored millions of euros. A few other lenders followed suit but they were soon denied massive cash withdrawal in order to prevent further distress.
Why Did Storing Cash Not Work?
At the time it happened, it seemed like the smartest way out. It was, however, a lack of foresight on the lender’s part. Storing cash in huge volumes accompanied excessive costs that weren’t initially considered. One of the main costs was transport and storage itself. While many lenders were able to manage that cost, there was another disaster in the waiting. The insurers weren’t willing to insure a huge amount of money in hard cold cash form.
According to most financial analysts, the insurance cost was around 1 percent of the total worth of the cash stored. This means that the total cost of storing cash piled up much higher than the negative rate being charged by the European Central Bank.
The strategy didn’t work as most banks expected. Hoarding or storing cash doesn’t bid well in anyone’s favor.
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