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Investment decisions and negative interest rates

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  • Anat Bracha

Abstract

While the current European Central Bank deposit rate and 2-year German government bond yields are negative, the U.S. 2-year government bond and deposit rates are positive. Insights from Prospect Theory suggest that this situation may lead to an excess flow of funds into the United States. Yet the environment of negative interest rates is different from the environment considered in Prospect Theory and subsequent literature, since decisions are framed in terms of rates of return rather than absolute amounts and the task involves the allocation of funds rather than a choice or a pricing task as is often used in the literature. Moreover, parking money in the United States as a foreign investor may lead to a mixed lottery due to exchange rate risk, while the literature mostly studies non-mixed lotteries. We therefore explore investors? behavior in a mixed-return lottery, using a series of lab experiments where the task is to allocate money between two portfolios with either a sure return or a risky return. We use a between-subject design such that, while the investment decisions are the same, those in the negative frame allocate funds between a sure negative return and a lottery, and those in the positive frame allocate funds between a sure positive return and a lottery. Surprisingly, we find no framing effect on investment, a result that holds for a large range of stakes, no matter whether the money to invest is literally on the table, regardless of the language used to describe the problem (abstract or not), and no matter whether the lottery is a two-state or a three-state lottery. We find that this result is not driven by whether the task is continuous rather than discrete or because the risky portfolio is a mixed lottery. Not only do we find no effect of the frame on the investment decision, we also find no evidence of risk-seeking in the loss domain, and that the behavior is mostly risk-neutral.

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  • Anat Bracha, 2016. "Investment decisions and negative interest rates," Working Papers 16-23, Federal Reserve Bank of Boston.
  • Handle: RePEc:fip:fedbwp:16-23
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    References listed on IDEAS

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    10. repec:cup:judgdm:v:8:y:2013:i:3:p:214-235 is not listed on IDEAS
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    Cited by:

    1. Corneille, O. & D’Hondt, C. & De Winne, R. & Efendic, E. & Todorovic, A., 2021. "What leads people to tolerate negative interest rates on their savings?," Journal of Behavioral and Experimental Economics (formerly The Journal of Socio-Economics), Elsevier, vol. 93(C).
    2. Chen Lian & Yueran Ma & Carmen Wang, 2019. "Low Interest Rates and Risk-Taking: Evidence from Individual Investment Decisions," The Review of Financial Studies, Society for Financial Studies, vol. 32(6), pages 2107-2148.
    3. Baars, Maren & Cordes, Henning & Mohrschladt, Hannes, 2020. "How negative interest rates affect the risk-taking of individual investors: Experimental evidence," Finance Research Letters, Elsevier, vol. 32(C).

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    More about this item

    Keywords

    investment decisions; framing effect; Prospect Theory; lab experiments;
    All these keywords.

    JEL classification:

    • D03 - Microeconomics - - General - - - Behavioral Microeconomics: Underlying Principles
    • D81 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Criteria for Decision-Making under Risk and Uncertainty
    • G11 - Financial Economics - - General Financial Markets - - - Portfolio Choice; Investment Decisions

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