I’m sure we’ve all heard the recent talk about negative interest rates and I’ve had many clients ask me how this might affect them. While it’s nice to think the banks might be paying us to hold our mortgages, it isn’t realistic.

When the Bank of Canada talks about negative interest rates, they mean the overnight rate. Currently set at 0.5%, central bank pays banks interest on the funds they park at the Bank of Canada. If rates are slashed below zero – known as negative interest rates – banks would be required to pay the central bank to hold their deposits. This isn’t an uncommon practice: the European Central Bank cut rates below zero to reinvigorate the euro zone’s economy and Switzerland also chopped rates below zero to slow the ascent of its currency and discourage investors from parking their funds in the European country.

Canadian EconomySo why would the Bank of Canada do this? Think of it as an added incentive to get banks to do something with their money – that is, to lend or invest. Negative interest rates punish banks for parking their excess funds at the Bank of Canada by making it more expensive for banks to hoard cash. The deposit costs are supposed to encourage the banks to lend or invest.

Assuming banks will have no appetite to lend during an economic crisis and consumers will be unwilling to borrow, the negative interest rate is supposed to encourage lending and borrowing.

So what does this mean for consumers, like you and me? Well, the bank isn’t going to pay you to borrow funds, but you will essentially get to borrow money for free.

The cost of borrowing will be close to 0%. “If you have a job and you are secure and you are doing great in this kind of crisis, you are laughing because you can borrow at near zero,” said Benjamin Tal, deputy chief economist with CIBC.

At the same time, banks may decide to pass on the extra costs to their customers and charge them to safeguard their cash.

So what is a depositor supposed to do? You can take your money out of the bank and invest it in an asset, such as a bond, or you can bring it home and store your cash in your mattress although you’d definitely have to invest in a good alarm company. How comfortable would you be leaving for work or vacation if you have thousands of dollars there?

Co-written with Martin Breeze, Mortgage Broker, TMG The Mortgage Group