Are negative interest rates an adventure in financial Wonderland?
The global financial system is venturing further into the bizarre world of negative interest rates.
Let's call it Alice in Financial Wonderland.
On Thursday the European Central Bank took additional steps to stimulate the eurozone economy, including a further cut in an interest rate that is already below zero.
Why is this so odd?
Think about what interest is. The lender gets paid interest for allowing someone else to use their money. But when the rate goes below zero the relationship is turned on its head. The lender is now paying the borrower. Why would anyone do that? Some reasons below.
Of course, this situation only applies to a limited number of financial relationships. No-one will pay you to spend on your credit card. But this unusual state of affairs does exist.
The ECB's deposit rate, which applies to money parked overnight by commercial banks, is now minus 0.4%.
Does that make the ECB president Mario Draghi the white rabbit - the one who led Alice into Lewis Carroll's subterranean fantasy world? Or perhaps there is a whole family with fluffy tails whose warrens extend to the central banks of Japan and several European countries, which have similar policies.
Japan's remarkable move
These negative rates are the policy decisions taken by a handful of central banks. But the phenomenon has also affected the bond market, where investors buy and sell the bonds or debts of governments and large companies.
The cost of borrowing is set when the bonds are issued. It depends on how much the financial firms who buy the bonds pay for them - what they are buying is a promise to make a series of payments in the future. If the price is high enough, the borrowing cost, in effect the interest rate, can be zero or even negative.
Last week the bond market took a new step down the financial rabbit hole.
Japan is the first government among the G20 major economies to borrow money by issuing bonds for 10 years at an interest rate of less than zero.
It's true that several other countries have done it for shorter periods and Switzerland (which is not a G20 member) has already done it for 10-year borrowing.
But Japan being paid to borrow money for 10 years is nonetheless a remarkable development.
It's a much bigger economy than Switzerland, with a much larger government debt - much larger even in relation to its economy.
The usual pattern with borrowing costs is the longer you borrow for the more you have to pay. So a negative 10-year cost is a striking thing.
It's worth emphasising the distinction between the two contexts in which we have negative rates. One is central banks making a judgement about what is best for economic growth employment and inflation. The other is private investors accepting a negative return on an asset, which is arguably much the stranger of the two.
So why do they? Accepting a pitifully low positive rate is one thing: it is better than nothing. But if the rate on offer is negative, then zero, or just sitting on the cash looks preferable.
With the latest government debt sale in Japan, one reason is thought to be investors buying the bonds with a view to selling them later when the central bank goes into the market as part of its quantitative easing programme, which involves buying financial assets with newly created money.
In other cases, banks have been more willing to buy bonds with negative returns because they are charged by the central bank if they deposit excess funds. In some cases, foreign investors think they can make money if the currency rises enough to compensate for the negative yield.
With central banks in the developed economies it is a policy choice to have kept their official interest rates very low - below zero in a few cases.
One of the key reasons is something else that is also very strange - at least by the standards of the relatively recent past. Inflation, in the judgement of central banks in the main developed economies, is too low.
At times it too has been below zero, but in the US, Japan, the eurozone and the UK even when above zero it has been well below the central banks' targets of 2% or thereabouts.
Central banks' failure to get back to the target and the persistence of sluggish economic growth in the eurozone and Japan has led them to try increasingly unorthodox policies: quantitative easing and negative interest rates.
The underlying idea is much the same as cutting interest rates in more normal times. The aim is to encourage more borrowing and spending by firms and households. Central bank rates do not completely determine the cost of such borrowing, but they are a major factor. Or at least they usually are.
There are some concerns that when central bank rates go negative, they have less impact on lending rates in the private sector beyond the money markets. A review by economists at the Bank for International Settlements said: "Questions remain as to whether negative policy rates are transmitted to the wider economy through lower lending rates for firms and households."
There are also concerns that they make it harder for banks to lend profitably.
The obvious alternative is fiscal policy - government spending and taxes. But governments in the west have been reluctant to use this approach, due to concerns about increasing government debt, although critics say those worries are misplaced.
Back to normality
So how long before we emerge from Financial Wonderland? There was a period last year when there were some signs that things might be starting to return to normal. The clearest indication of that was the decision by the Federal Reserve in December to raise US interest rates from essentially zero.
The expectation then was there would be several more hikes this year. However, this glimmer of financial normality - signs of Alice the banker regaining consciousness perhaps - didn't last. Now the markets think it is more likely that the Fed will raise rates again just once or twice this year. The prospect of any such action by the other major central banks has receded into the more distant future.
More than seven years on from the most intense phase of the financial crisis, the aftermath is still with us. Some things clearly have improved. Unemployment is low in the US, Britain, and Germany and the eurozone is no longer in imminent danger of chaotic disintegration. But there are many weaknesses and the unusual financial conditions will not return to normal for a while.
It's getting to feel like Alice's tea party, with the clock stopped at tea time. She certainly hasn't come round yet.