Tuesday, August 25, 2015

Damage Done By Interest Rates

For all the talk of economic chaos, all are agreed that the interest rate is a key factor, if not the key factor, causing the problem.  There is no debate as to whether it has an effect, only two sides to the debate:

1. How to set it "right" so policy makers get the desired results (specifically, if not explicitly, the right people benefit).  Within this group is the debate as to what is the right right.

2.  The other side is that the state should not be in the business of setting and manipulating interest rates, it should be a free market matter.

(My argument is interest should be like gambling debts, never enforceable in any way).

Now, from the capitalist side is a good litany of harms done by government manipulated interest rates:
  • Conservative investors by nature come under increasing pressure with respect to their investments and take on excessive risks in light of the prospect that interest rates will remain low in the long term. This leads to capital misallocation and the emergence of bubbles.
  • The sweet poison of low interest rates leads to massive asset price inflation (stocks, bonds, works of art, real estate).
  • Structurally too low interest rates in industrialized nations due to carry trades lead to the emergence of asset price bubbles and contagion effects in emerging markets.
  • Changes in human behavior patterns occur, due to continually declining purchasing power. While thrift is increasingly mutating into a relic of the past, taking on debt comes to be seen as rational.
  • As a result of the structurally too low level of interest rates, a “culture of instant gratification” is created, which is among other things characterized by the fact that consumption is financed with credit instead of savings. The formation of wealth becomes steadily more difficult.
  • The medium of exchange and unit of account function of money increases in importance, while its role as a store of value declines.
  • Incentives for fiscal discipline decline.
  • Zombie banks are created: Low interest rates prevent the healthy process of creative destruction. Banks are enabled to roll over potentially non-performing loans practically indefinitely and can thus lower their write-off requirements.
  • Newly created money is neither uniformly nor simultaneously distributed amongst the population. This results in a permanent transfer of wealth from later receivers to earlier receivers of newly created money.
  • But those are exactly the problems of all interest rates!  The only difference is which schmucks get nailed and how bad.

    It surprises me how people can well perceive the damage done, but limit the criticisms only to those whose participation is with a certain narrow range of damage done.  All usury causes damage, as described, more or less.

    Feel free to forward this by email to three of your friends.