Low interest rates are economic poison

JUNE JOBS BOOM…
RECORD EMPLOYED…
RATE CUT CANCELED?

Keynesian economics has ruined our understanding of how economies work in many many ways, but near the top is the belief that low interest rates promote growth and stimulate economic activity. It’s all part of the absurd notion that demand is what drives an economy. What actually drives an economy is the supply-side, and what low interest rates do is allow many low productivity and no productivity activities to access funds in place of truly value-adding investments which either remain unfunded, or receive fewer funds than they ought to receive given their relative economic potential.

It may be the one issue of significance I disagree with Donald Trump about. The Fed in the US has been raising rates and the economy keeps getting better. The Fed does it because they are trying to spike Trump’s success, and Trump worries that they might succeed. There is also no doubt that rates can be raised too high, but there is also no doubt that rates can be too low. In the US it is hard to tell, but in Australia rates are too low and lowering them further will only make the economy worse. Falling real incomes are the surest sign. And then there’s this from Alan Kohler.

Even the RBA recognises this, calling for fiscal stimulus at the same time as it cuts, and on that score, no sooner said than done: two days after Governor Philip Lowe’s speech on the matter, the tax package was passed, delivering the equivalent of two rate cuts in tax refunds.

The straight out ignorance of basic economics inside the RBA, who are lowering rates and calling for a stimulus, ought to be a scandal, except that economists are Keynesian through and through. Let me send you to the last two chapters of my Free Market Economics if you would like to understand how economists looked at these things before the Keynesian blight ruined economic theory, possibly forever.

This entry was posted in Economics and economy. Bookmark the permalink.

43 Responses to Low interest rates are economic poison

  1. I’m happy at the moment with low interest rates.
    Having lived (if that is the appropriate term) through high interest rates, I’m at peace with the current low interest rates.
    I’m not sure exactly what interest rates are at, but they’re a nudge below 6%
    A very pleasant change from 23%

  2. JC

    Here’s the issue, Steve. The RBA is governed by the 2 to 2.5% inflation mandate. If it doesn’t ease monetary policy when the rate is below target and looks like remaining below, what does it do? Of course it has to appear to ease policy.

  3. 2dogs

    The are not low for the typical borrower. Risk premiums soared after the financial crisis and remaining high. Your typical mortgagee was paying 1.25% over the RBA rate before it, and are paying about 3% now.

    This squalid situation we are in now is not stable, and will ultimately get cleaned out by FinTech. The blockchain platform which allows the retail borrower to issue their own securities to the public will take the prize.

  4. Mark M

    “The straight out ignorance of basic economics inside the RBA,”

    The stupid and/or incompetence required to believe in UN doomsday global warming, then to claim you are incorporating this ‘science’ into economic decisions like interest rates should be all you need to know.

    Climate Change and the Economy
    https://www.rba.gov.au/speeches/2019/sp-dg-2019-03-12.html

    Figueres: First time the world economy is transformed intentionally
    https://www.unric.org/en/latest-un-buzz/29623-figueres-first-time-the-world-economy-is-transformed-intentionally

    But cats know this.

  5. Herodotus

    The problem remains the tidal wave of commentary in the media and from assorted pollies, alleged scientists and UN types plus celebs that warming is still happening and that man made CO2 is the driver.

  6. Bruce of Newcastle

    Pushing on a cart is pointless when the horse is dead.
    First get a live horse.
    Then push on the cart.

    Only by deregulation, removal of stupid taxes and green imposts can the horse be kept alive. Lay waste to the licence raj. Give us cheap electricity: ditch the renewables subsidies and build a bunch of power stations to produce low cost electricity on demand. China can do it, why can’t we?

  7. Karabar

    It always amazes me that we import a few hundred thousand low skilled immigrants every year, and then stare in amazement that wages are stagnant and infrastructure is insufficient.

  8. Bad Samaritan

    That supply drives the economy and market is very obvious. Hardly anyone can predict what will be on the shelves and in the stores in 5-10 years time, precisely because those things are not yet demanded. Over at every R+D dept boffins are feverishly spending billions to determine what will be supplied that is not yet demanded, and how to advertize these things so as to create demand once they have been supplied. Many of these as-yet-not-demanded things will be duds, but many others will not be. These could be totally new, or with features as yet “undreamed” of.

    It works the same with services. That Madagascan-themed restaurant chain that becomes the #1 fad of 2025 is not something I’m dying to try as yet. That rival to Microsoft with their Broken Windows operating system; whoever woulda thunk that would conquer the market? Everyone’s going llama riding in Patagonia instead of European River Cruising…now that’s what I call adventure and romance! Etc etc.

    Steve is correct. If I can get finance for practically nothing….or maybe even free…..then it clearly lowers the bar as to what I will be prepared to present as my latest ‘innovation”. Capitalism works on a cautious hit-or-miss basis. Take away the chance of a “miss” really hurting the purveyor, and you’ll have even the worst unwanted shyte appearing. See the ABC, for a prime example!

  9. The Pugilist

    This paper by David Glaesner seems to recognise the true meaning and importance of Say’s Law. It (in my view) implies, but doesn’t specifically mention the role of monetary policy in distorting expectations of the future in driving (Or at the very least enabling) the business cycle.

  10. Tel

    https://fred.stlouisfed.org/series/PPIACO

    I take one look at that chart and I see that the Fed is keeping it in the zone of 200 to 210.

    They get internally notified of the next value before it goes up on the chart, but even so the number is mostly behaving itself, so I doubt they will do any rate cuts.

    Here’s what yanks my crank: we are supposed to believe that Australia has had approx 2% official inflation, which would imply that the AUD has lost 2% of it’s value each year. At the same time, in 2013 one AUD was equal to one USD, but in 2019 we can only buy 70c. So annualize that trend and it means the AUD has been losing value at 6% each year.

  11. Tel

    The AUD is the sick man of world currency. We have lost ground against the JPY and against the EUR, that means all Australians got a pay cut over the past few years.

    Here’s the trick to Keynesian economics … remember that Jonathan Gruber creep giving lectures about the stupid rubes too dumb to know what’s good for them? Well Maynard Keynes was the same thing … giving those dumbarse working class a pay cut by inflating the currency. That’s all this is about, how to scam the working numpties. Now they tell them, “Oh CPI is just 2%” and the don’t bother explaining how this cannot possibly make sense … so everyone gets their nominally high wages that strangely don’t buy anything.

  12. sfw

    Reserve Banks around the world have fixated on getting inflation to run around the 2% figure, why I don’t know but that’s what they say they want. At the same time they refuse to measure and account for inflation in the very areas where it is really big. Normally if more money is printed the overall price of goods and services will increase to absorb the extra money. Now we are in an unusual situation at the moment, the supply of many goods and some services is not limited. China and others can produce huge amounts of stuff at amazingly low cost, we import extremely low paid and low skilled to people to wash our cars and do other low skilled work. Food is also very cheap and easily available in large quantities. So those who measure inflation mostly measure the prices of stuff that is cheap and will remain cheap.

    So where does all that extra money go? Well inflation always benefits those who get their hands on the extra money first, so the banks give the new money to their friends the elite, both business and government, These elites (like most people) don’t need more consumables, they buy assets, mainly property and stocks etc, those who get the money last can’t buy anything. That’s where all the money has gone and it’s also why the average person in Australia now has to pay around 8 times annual wages for a property that 25 years ago would have cost 4 times his annual wage. Those who have no assets and low to moderate incomes have slowly been robbed of their opportunity to build wealth and live comfortably.

    Until Central Bankers and governments acknowledge these problems the damage will continue, money will flow to things that don’t add value and create and reinforce an asset holding class who will live off the rents paid by those who can never get their hands on the new money early.

  13. mh

    The Dow rises and falls based on whether the Reserve will cut or raise.

    Therefore good jobs figures will cause a sell off, not so good jobs figures spike the market.

  14. mundi

    If you want to know how lost we are…. just consider the insanity in something as simple as the income tax system.

    Here are the marginal tax rates thanks to combination of income tax brackets, medicare levi, and “low and middle income tax offset”:

    $0 to $18,355 ==> 0%
    $18,355 to $22,380 ==> 19%
    $22,380 to $28,000 ==> 19% to 31%
    $28,000 to $37,000 ==> 21%
    $37,000 to $48,000 ==> 27%
    $48,000 to $90,000 ==> 34.5%
    $90,000 to $126,000 ==> 42%
    126,000 to $180,000 ==> 39%
    180,000+ ==> 47%

    Notice how they are not progressive in two places.
    The rate drops from 42% back down to 39%, this is because those in $90k to $12k are seeing the “ramp down” of the “low middle income tax offset” at 3% per dollar earned.

    And of course we still have the insane marginal rate of 31% around $28,000, because the medicare of the dumb way the medicare levi ramps in.

    If the government is so dumb, clueless, and complicated, with something as simple income tax, just imagine how they are with the economy. The government has no clue, and the government departments like the RBA have no clue.

  15. Tel

    Normally if more money is printed the overall price of goods and services will increase to absorb the extra money.

    You presume the money is disbursed into most areas of the economy equally.

    Cantillon is widely credited as the first to show that changes in the money supply and credit have important impacts on the economy by changing relative prices. He showed that an increase in the supply of money would cause economic expansion, but that ultimately the process would be self-reversing as prices would rise and imports would increase, sending money back out of the economy. Cantillon further showed that monetary inflation does not affect all prices equally or at the same time, but in sequences that depend on the spending behavior of money holders all along the channels of monetary flows. These ideas have been adopted and extended by Knut Wicksell, Ludwig von Mises, and F.A. Hayek and others.

    https://wiki.mises.org/wiki/Richard_Cantillon

  16. MPH

    Steve – interest rates and dealing with the US government debt are the two things I’m not sure if Trump will solve. I have no doubt he is capable of doing it, just not sure if he will get to it or even sees the issue. Had the potential to be his biggest regret upon leaving office.

  17. sfw

    Tel, I agree eventually when distribution eventually reaches all parts prices will rise, the point is that those who get the money first will benefit, those later in the cycle lose out. All our Central Bankers have done is to ensure that the elites are those who benefit and the rest go backwards (as well as driving investment to non productive sectors). Who was it said that there is a lot of ruin in a country? I can’t remember but these wealth destroying policies will go on a lot longer than you would think possible, especially when both sides of politics encourage it and benefit from it.

  18. W Hogg

    What about bondholder repression as an objective in itself? Negative real rates are by definition the way to achieve that.

  19. mh

    Kamala Harris

    @KamalaHarris
    After generations of discrimination, it’s time to give Black families a real shot at homeownership — historically one of the most powerful drivers of wealth. My new policy will remove unfair barriers Black Americans face when they go to qualify for a home loan. #EssenceFest
    2:53 AM – Jul 7, 2019

    OMG. Have they learned nothing?

  20. Muddy

    I’ve admitted – multiple times – to my economic ignorance, so I find some of the responses above quite interesting, particularly the simpler ones explaining a concept. Thanks to Bad Samaritan and sfw among others, for their posts.

  21. Steve is correct. If I can get finance for practically nothing….or maybe even free…..then it clearly lowers the bar as to what I will be prepared to present as my latest ‘innovation”.

    First you gotta convince some risk averse banker to loan it to you.

  22. Tel

    sfw #3098915,

    I doubt that they ever intend to give us a rest from it … printing money gives governments the ability to tax by stealth. Sure they need to share the takings with the banks, but they can give those dastardly banks a public dressing down now and then to remind them who’s boss. The banks dutifully buy up some overpriced government bonds with the freshly printed money and everyone is sweet. In the long run government debts get eaten down by inflation so they never need to pay it back.

    Peter Schiff has been predicting “Stagflation” for the US economy for a long time now, but the unexpected combination of a Trump mini-boom driven mostly by wishful thinking, and Yellen interest rate rises (possibly intended to hurt Trump, but maybe not) has apparently saved the USA from Stagflation.

    Trouble is, what’s going to save Australia from all the things that Schiff predicted would happen to the USA? Every problem that Schiff has pointed out, applies MORE to Australia than the USA: irresponsible central banks; the economy that doesn’t make anything anymore; the Great Recession that got papered over and never properly fixed; the rise of Socialism and loss of property rights, ballooning debt that can’t be paid back. The way I see it, Schiff predicted the correct outcome for the wrong country!

  23. John Comnenus

    Mundi,
    The bureaucrats have a vested interest in keeping things complex. 1. It puts a premium on the value of information and knowledge held by senior bureaucrats, and 2. Complexity drives headcount.

    If u want an example of the way this needless complexity favours the bureaucracy, consider same sex marriage. Same sex marriage by amending the former act by substituting ‘man and woman’ with ‘any two adults’. But no they wrote a massive complex law that requires reviews and further bureaucratic work to untangle the implications on religious freedom.

  24. Pyrmonter

    Why does Kates defy markets? If the demand for credit and money is low, surely its price should be allowed to fall until the market reaches equilibrium?

  25. Tel

    Pyrmonter #3099102,

    Are central banks part of the free market in your opinion? Or you believe that central banks have no effect on interest rates??

  26. Pyrmonter

    @ mundi

    There can’t be many working age people earning in the 22k – 28k zone – in which case, that is a straight transfer. It’s irrational, but in terms of rankings, I suspect the taper rates on welfare (for the truly poor) and the marginal effects higher up the income scale matter more for long term labour force participation.

  27. Pyrmonter

    @ Tel

    I’m not sure. The influence central banks have is debatable: Fama had some papers out a few years ago arguing they just followed the market. I suspect they’re the formal equilibrating mechanism, and don’t exercise much influence through their ‘rate setting’, or that all the court gossip around their pronouncements is much more than copy to fill the pages of newspapers with. I do think they can influence things adversely in terms of credit growth, but mostly through ‘prudential’ actions, which, I think, have tended to be pro-cyclical over the past decade and a half.

  28. Tel

    What is an “equilibrating mechanism”? I can’t even make sense of that … equilibrium means it goes where it goes … so what sort of mechanism is required to make a market do what it’s gonna do anyhow?

    If it’s a formal mechanism, then show me where this is formally documented. Why does it require suspicion? The whole idea of having formality is that we all see it and recognize it.

  29. BoN:

    Only by deregulation, removal of stupid taxes and green imposts can the horse be kept alive. Lay waste to the licence raj. Give us cheap electricity: ditch the renewables subsidies and build a bunch of power stations to produce low cost electricity on demand. China can do it, why can’t we?

    All these distortions are what keeps our economy in chains.
    But China hasn’t done it, Bruce. They’ve freed a certain demographic from observing the law, and these – the nomenklatura class – are the ones who are the beneficiaries of the growth. The party depends on the Nomenklatura for support in votes, bribes, and general support.

  30. Pyrmonter

    @ Tel

    I ‘suspect’ in the sense that I think this is right, but am not sure and am open to persuasion. I know the idea of not knowing everything or being entirely sure of ones opinions is rare on the Cat, but, well, that’s just me. I find the whole field of monetary economics fairly something about which I tend to hold tentative and qualified views; it isn’t like physical science.

    ‘Equilibrating mechanism’ – perhaps a clunky term. I mean I think it is the mechanism through which we see market adjustments reflected to move to something close to a point where, without some other change in conditions, the rate in question will remain unchanged. I’m not meaning to coin a new term, just describe what I think it’s doing.

  31. Squirrel

    Low interest rates might serve a useful purpose in an economy which has not been so hollowed-out as Australia’s. All we get with lower rates is more household debt, even more insane asset prices, and more money flowing out of the country to pay for imported goods and services.

    The RBA long ago painted itself into a corner and is now hostage to the monstrous debt bubble which they did precious little to avert.

  32. Chris M

    The RBA is governed by the 2 to 2.5% inflation mandate

    In Australia currently 100% of inflation is coming from government (fed, state and local) charges, fees, licences and any industry heavily regulated by government such as electricity. Prices in the private sector are flat, not rising and in some cases falling. So no amount of interest rate dropping will make a scrap of difference to inflation in this climate. The RBA might as well disband and close shop for all they are achieving.

  33. sfw:

    Reserve Banks around the world have fixated on getting inflation to run around the 2% figure, why I don’t know but that’s what they say they want.

    The banks are shit scared of the stagflation from the last century. Mainly because it seemed so intractable.

  34. Mundi:

    If the government is so dumb, clueless, and complicated, with something as simple income tax, just imagine how they are with the economy. The government has no clue, and the government departments like the RBA have no clue.

    We live in a Kakistocracy*.
    *(kakistocracy definition: a nation that is ruled by the least suitable, able, or experienced people in a state or country)

  35. mh:
    Kamala Harris

    After generations of discrimination, it’s time to give Black families a real shot at homeownership — historically one of the most powerful drivers of wealth. My new policy will remove unfair barriers Black Americans face when they go to qualify for a home loan. #EssenceFest
    2:53 AM – Jul 7, 2019

    OMG. Have they learned nothing?

    Nope – she wants another banking crisis – another subprime mortgage crisis.
    Just like the last one which cost the US 9 million jobs.

  36. sfw

    Winston, why 2%? All the Central Banks want some inflation, I’ve yet to get a good explanation for this even 2% will erode savings and theoretically could/would lead to higher interest rates. I listen to macro musings podcast (among others), the host and his guests are sharp and smart and are almost fanatically religious about the 2% target yet I’ve never heard them say why they want it.

    They will never get it in the forseeable future as the figures used to estimate inflation ignore where the inflation is happening, do they not know this? Are they wilfully blind like many economists? Telling those who pay their salaries what they want to hear?

  37. max

    Pyrmonter
    #3099102, posted on July 7, 2019 at 2:10 pm
    Why does Kates defy markets? If the demand for credit and money is low, surely its price should be allowed to fall until the market reaches equilibrium?

    If market is free there would not be central bank and money would be gold or silver or any similar commodity.

    If you and me do what central banks do we would end up in jail — but banksters do not

  38. Texas Jack

    If we we’re all comfortable limiting the RBA to cost-neutral seigniorage, safety of the payments system, and keeping its traditional role of lender-of-last-resort, would we be happy if it didn’t have a board rate-setting function for the official cash rate? My guess – in 1980 with market transmission mechanisms weak our answer would have been no. Today, with markets absurdly “efficient” they’ve taken the ECB at its word and driven 10-year Bunds to -0.40%.
    There does not appear to be a problem of transmission mechanisms, but one of needing to ask why do seemingly rational investors make a decision like that of holding the debt of the FRG at negative interest rates? The answer is that the ECB is suppressing reality by diktat, holding down EUR rates in the name of keeping dolts like Alexis Tsipras in their seats (thankfully the Greek people saw through it all).
    I don’t hold much hope for Europe with the latest appointment to the ECB, and I doubt a sane ScoMo will start asking for papers on how to dismantle the RBA rate-setting function (he won’t even defund the ABC). Nonetheless, it’s a question we should probably keep trying to answer here at the Cat.

  39. Pyrmonter

    @ Texas Jack

    I’d dearly like the RBA to get out of the business of being the Lender of Last Resort – I remain of the view that ‘too big to fail’ probably dwarfs any present problem from excess or insufficient market liquidity.

  40. Frank Walker from National Tiles

    Being the lender of last resort is arguably worse than anything other than a short term inflation mandate. The long term goal ought to be 0% inflation. It is not perfect but the best we can hope for is the government’s central bank mimics a private sector quasi-central bank.

    The short term inflation goal (say, between -2% to +2%) and a long term, hard target of zero is good because it creates conditions that allow for market adjustment but it does not allow the ideology of inflationism to take hold.

  41. Pyrmonter

    @ Frank

    It also avoids introducing intended distortions into the taxation system – we tax nominal, not real measures of income, interest etc.

    That said, I’m not so sure we can measure the price level with the certainty required to make price level targeting some sort of binding constraint over the longer term, say, 10-20 years: the composition of ouptut changes too much.

  42. Lilliana

    Kamala Harris
    After generations of discrimination, it’s time to give Black families a real shot at homeownership — historically one of the most powerful drivers of wealth. My new policy will remove unfair barriers Black Americans face when they go to qualify for a home loan. #EssenceFest
    2:53 AM – Jul 7, 2019

    OMG. Have they learned nothing?

    Apparently not. Clearly forgotten the GFC.

    She is a dangerous, devious, nasty woman who is milking the race card for all its worth. Hideous person who should not be allowed within spitting distance of the white house.

Leave a Reply

Your email address will not be published. Required fields are marked *

This site uses Akismet to reduce spam. Learn how your comment data is processed.