Negative Interest Rates Explained: What They Are and Why They Matter in 2025

Erika Rasure is a globally acclaimed expert in consumer economics, researcher, and educator. She specializes as a financial therapist and transformational coach, particularly passionate about empowering women to invest wisely.

Understanding Negative Interest Rates

Negative interest rates occur when borrowers receive interest payments instead of paying them to lenders. This unconventional monetary policy is usually implemented by central banks charging commercial banks for holding reserves, rather than rewarding them with interest.

This rare economic condition generally arises during deep recessions when traditional monetary tools, such as lowering rates to zero, are insufficient to stimulate the economy. The goal is to encourage banks to lend more and consumers to spend or invest, rather than hoarding cash that depreciates over time.

Key Insights

• Negative interest rates occur when borrowing costs drop below 0%.
• Central banks adopt this strategy primarily during deflationary periods.
• Borrowers effectively get paid interest, reversing the usual lender-borrower dynamic.
• Commercial banks face charges on reserves held at central banks to promote lending activity.
• Banks are often hesitant to pass negative rates directly to customers.

The Mechanics Behind Negative Interest Rates

Interest rates represent the cost of borrowing money. While typically borrowers pay interest on loans, negative rates flip this concept, with lenders effectively paying borrowers. Central banks introduce negative rates to counteract deflation and stimulate economic growth when rates hit the zero lower bound.

During deflation, consumers tend to save more, expecting money to gain value over time, which suppresses spending and demand. When cutting rates to zero is inadequate, central banks push rates below zero to incentivize borrowing and investing, charging banks for holding excess reserves.

Important Considerations

Negative interest rates affect entire economic zones by making cash storage costly. This leads both consumers and banks to incur fees for deposits instead of earning interest.

Special Factors

While real interest rates can be negative when inflation exceeds nominal rates, nominal interest rates usually have a zero lower bound. However, some countries, like Switzerland until 2022 and Japan until 2024, have maintained negative nominal rates as part of their monetary policy.

Impact on Commercial Banks

Commercial banks pay interest on reserves held at their central bank under negative rate policies. Although this should translate into negative rates for customers, banks often avoid transferring these costs directly.

Consequences of Negative Interest Rate Policies

Negative interest rate policies (NIRP) are unconventional and aim to combat economic stagnation caused by deflation and reduced demand. When people hoard money, it causes prices to fall, production to slow, and unemployment to rise.

By lowering rates below zero, central banks try to stimulate borrowing and spending. However, the effectiveness of NIRPs remains debated, with unclear impacts beyond banking reserves.

Quick Fact

Individual depositors typically are not charged negative interest rates on their accounts.

Examples of Negative Interest Rate Adoption

Central banks in Europe, Scandinavia, and Japan have implemented negative interest rate policies to encourage spending and investment, discouraging cash hoarding by imposing costs on bank reserves.

How Do Interest Rates Turn Negative?

Interest rates reflect the value of money today versus the future. Positive rates indicate money is worth more now than later, influenced by inflation and economic growth. Negative rates suggest money will be worth more in the future, prompting spending now.

What Negative Interest Rates Mean for Individuals

Usually applying to bank reserves, if negative rates extended to consumers, savers would pay to keep money in banks, while borrowers might receive payments to borrow. This would encourage borrowing and spending, with some opting to keep cash physically rather than pay deposit fees.

Market forces typically restore positive rates by balancing supply and demand for loans.

Where Are Negative Interest Rates in Effect?

Countries like Japan, Switzerland, Sweden, and the Eurozone have adopted negative interest rate policies over the last two decades to support financial sector growth and stabilize currencies.

Why Central Banks Use Negative Rates to Boost the Economy

Central banks use NIRPs to avoid deflationary spirals during severe recessions. When consumers and businesses hoard cash waiting for economic improvement, spending drops, causing job losses and price declines. Negative rates encourage borrowing and investing to break this cycle.

The Bottom Line

Negative interest rates represent an extraordinary monetary policy where lenders pay borrowers to stimulate economic activity during recessions or deflation. By incentivizing lending and spending, countries like Switzerland and Japan have used NIRPs to navigate challenging economic conditions.

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