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I recall a time of nearly 20% interest rates here in Australia a few decades ago. As far as I can remember, it was all just business as normal for most people. It all comes down to just how much debt you own.

If I recall, people who were highly leveraged or had negatively geared property were hit the hardest. People with actual savings in the bank were actually happy with their interest returns being so high.

Household debt was not as bad back then as it is nowadays, so I don't expect it to go as well if we ever hit those levels again tomorrow.

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You missed it. It's subtle but it's a really, really big effect worth understanding. You really wanted to have as much debt as you could service without going bankrupt.

Australia had a massive redistribution of wealth from savers to borrowers. As long as you didn't become insolvent the more debt you had invested the richer you got.

Borrow $100k as long as your salary kept going up so you could make the payments every year the amount you borrowed was worth less. Think salary goes from $20k to $50k over 5 years. $100k borrowed goes from 5 times salary to twice. Borrow, and invest in anything that isn't hit by inflation. In the 80s houses did that job.

Now if you had $100k in the bank (or government bonds or similar). 5 times salary saved just became 2 times salary saved. Ouch.

Unanticipated inflation is always a redistribution of wealth from lenders (savers) to borrowers.

Of course if you borrowed for a car or a holiday that's something different but you are still paying it off with devalued currency.

> You really wanted to have as much debt as you could service without going bankrupt.

This is an interesting thought. I have mostly heard this advice for corporate. Companies are encouraged to take on as much leverage as they can without affecting their bottom line. But I never thought it can be applied to personal saving and market crashes too.

I had couple of questions - how do you calculate debt or leverage at personal level?

The savings example - wouldn't the savings increase as well?

Should you look to increase your leverage in times of high interest or a low one?

And lastly, how do you find assets which aren't hit by inflation?

Do I need to point out that anyone following advice from an (anonymous?) internet poster deserves to go bankrupt and none of the following is any kind of financial advice? Well I did, sorry.

> how do you calculate debt or leverage at personal level?

Can you make the payments? Chances of not making them next year etc. So much personally specific stuff in that there can be no rule of thumb. Is your job secure? Will your wages go up? How is your risk appetite? Why do you want more money - what do you want to spend it on, when, etc.

> wouldn't the savings increase as well?

You have $100k, you buy US Govt. Bonds with a 10 year term and an expectation of low inflation. Inflation rips (surprise!), your 100k buys a lot less stuff in 10 years time. The 5% coupon doesn't cushion that blow much. If the inflation is anticipated then you would have a very high yield on 10 year us govt bonds and there is no redistribution of wealth between borrowers and lenders. You get back a sum of money that buys a similar amount of stuff.

I've just described the simplest case with fixed coupon long term bonds, you can make it more complex with variable interest rate accounts or whatever and you'll see unanticipated inflation always is a redistribution to borrowers from lenders. "Pay off your loan with worthless currency." "Remember when you could get a beer for under $100?" Sounds ridiculous now, right? $10 beers used to be equally ridiculous.

>Should you look to increase your leverage in times of high interest or a low one?

No easy answer. Depends on your circumstances and preferences. If you do increase your leverage, can make the payments and your investment is an inflation hedge, unanticipated inflation is a win for you if that's what you want. There is additional risk involved, obviously. Putting money in the bank is almost certainly a losing proposition. In addition to the redistribution to borrowers the increased interest payments are taxed so you're going backwards. think 2% real interest 10% inflation for a bank interest rate of 12%. Well you're taxed on all %12. So some part of that 10% to compensate for inflation goes to the taxman and you're losing purchasing power of your capital.

> And lastly, how do you find assets which aren't hit by inflation?

Most assets are some kind of hedge against inflation. NOT bonds, obviously. But equities will likely be so, gold, real estate, antiques & jewellery. Think of an asset's price as a percentage of the average annual salary. If inflation rips will that percentage of salary change? Much? Why? With bonds the answer is yes and the reasons are pretty straight forward. With housing, rent is likely to be a fairly fixed percentage of salary, salaries double in nominal terms, rent will likely do the same. (But do consider what else is going on in an economy when inflation takes off, will the plant shut down making that place a slum? Likely it's more subtle than that). Buying an equity of a company that has sales, will their sale prices keep pace with inflation? You'd imagine McDonalds would, for example. Will their sales qty drop in an economy with high inflation is also worth considering and is a trickier question to get right. I'm partial to S&P500 index tracking funds, they're popular nowadays too. Obviously equities can crash in value over the short to medium term.

Having lived through the 20% interest days here in Australia it was far from "business as normal". We had a massive recession shortly afterwards, house prices crashed and unemployment went over 10%.

I don't think we will ever see 20% interest rates again because the level of debt here in Australia is so much higher now. If interest rates even get to 8% it will be like 1990.

Fair point. I was still only just out of school at that point, and as a young student with little debt, my world view (and that of my friends) would have been different from people who owned property or other investment vehicles that came with interest payments.

EDIT: But I also recall that those times were when high flying business people like Alan Bond etc. were still getting banks to throw money at them even though interest rates were astronomical. A large part of the problem which probably lead to the eventual crash and burn of the economy...

It's worth noting that most Australian mortgages use variable (i.e., non-fixed) interest rates, so when rates go up, everyone's payment increases. High interest rates in the US are beneficial to mortgage holders because most people use fixed-rate loans which means as inflation increases, your monthly payment decreases in real value.

No such thing as fixed rate: fixed rate just means "variable, but in 3 or 5 year (or whatever) increments". The interest is a bar graph with bars that are several years wide, instead of a graph with one-month-wide bars.

Fixed rates are not free; you pay extra for the fixing. The longer the fixing, the more you pay.

It only makes sense to go fixed rate if you're very sure that the interest will climb over the next term. Not only that, that it will climb sufficiently enough to offset the cost of locking into the fixed rate so you still come out ahead. Once that term is up, you're no longer locked in; so you have to re-evaluate everything at the start of the next term.

(You don't have to do this upfront, either; variable rate mortgages have the option to switch to fixed for the remainder of the term.)

Anyway, people who go for fixed rate mortgages end up paying tens of thousands of dollars extra over the life of a mortgage, unless they are somehow able to game things in periods of rising interest.

When I was signing up for a mortgage, the financial institution offered to cover the lawyer's fees for all the paperwork, running into the hundreds of dollars. That offer was quickly rescinded when it became apparent that I'm declining the fixed term mortgage and opting for variable. That's obviously because the fixed term is good for them; that's why they incentivized it. When some aspect of a deal is good for you, it's never incentivized.

From another comment below:

In the US, fixed rates are for a 30 year term. Countries like Canada and Australia have 10 year terms as a max, with most people electing for something shorter as the rate goes down.

You can get fixed rates on shorter mortgages in the US. I have been quoted fixed rates on 15 and 20 year mortgages in the past month.

> It only makes sense to go fixed rate if you're very sure that the interest will climb over the next term.

That's not true. I chose to pay an extra £30 a month on my mortgage because I'm not sure rates won't rise over 5 years, and I want to be confident of budgeting for the the next 5 years. I'm confident rates won't go down, but rates going up could affect me. Think of it as insurance. I don't take home insurance because I'm confident my house will burn down, I take it incase my house does burn down

Do you apply the same reasoning for the last payment of the fixed-rate term? £30 because you're not sure that the rate won't rise over the last month and end up costing you £60; good insurance?

I think fixed rate can make sense in some circumstances, but you need to factor in the expectation of eventually refinancing. But then frankly you should expect to refinance anyway. It's highly unlikely that the same mortgage will turn out to be just a suitable to your circumstances and the competitive landscape in 20 years time as it is now, or even in 10 years, whatever mortgage you choose.

Here's my (partial) heuristic. If you see adverts on TV for fixed rate mortgages, don't get one.

You don't have to go for all-fixed or all-variable: you can typically split your loan and fix part of it. This effectively lets you hedge against the interest rate risk - you aren't as exposed to rising interest rates, but also don't benefit as much from falling rates.

The main downside of fixed loans is that you usually can't reduce your interest payments by making additional repayments (because ultimately they are backed by long-term bonds issued by the bank).

Depends on where you live. California state law requires all lenders to except early payments, so a fixed loan holder in California really gets the best of both worlds.

If the interest rate goes down, you can just refinance. The fixed rate protects you from upward movement, and being able to refinance protects you from downward movement. What am I missing?

Only that: TANSTAAFL.

Also: variable mortgages can also convert to fixed. If the rate is sitting flat, you're better off variable, with the option to switch to fixed if it looks like it will climb, than vice versa.

There are fees and process time to refinancing that acts as a disincentive to do so; and for several decades the fixed rate (by design) has been higher than what the variable rate incurs over the term (at least in Canada, where the term and the amortization period aren't the same).

> No such thing as fixed rate: fixed rate just means "variable, but in 3 or 5 year (or whatever) increments".

No, you can get mortgages they are fixed for the life of the loan.

> Fixed rates are not free; you pay extra for the fixing.

You do typically start with a higher rate, but when we shopped for loans last, the variable rate loans all had a floor very near the initial rate and interest rates were at historic lows, so either the momentary extreme lows would last indefinitely or fixed rate would be cheaper over the life of the loan.

Further, if interest rates do drop, you can refinance a fixed rate loan down, minimizing the difference between it and a variable rate, even if the latter doesn't have a floor that prevents meaningful reductions, where variable would be best. OTOH, where fixed would be best (with rising rates), variable leaves you high and dry.

I was quote young during that period (I'm 37 now) and even I remember people having heart attacks and / or defaulting on loans in Port Lincoln (highly leveraged commercial finishing outfits).

> happy with their interest returns being so high.

The "returns" were rarely above the inflation rate, plus you got to pay income tax on those illusory "returns".

Savvier people would shift their money into assets that kept or increased their value independent of inflation, such as equities and real estate.

I question the equities and real estate being independent from inflation bit: if interest rates are at 20%, imagine the interest cost of a mortgage! Prices have to come down to compensate.

Equities return, on average, 7% in real terms. Meaning they are good investments in inflationary times.

Another way to look at it is inflation means the dollar is worth less, not other things that are not pegged to the dollar.

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