With inflation at 10%, fears about "going too far with interest rates" make sense only *at least* north of 5%, and realistically, 8%.
Honestly, I know cynicism and despondency are in vogue right now but the last 20 years have shown global policy makers are doing an absolutely outstanding job. Fiat currency and Keynesian orthodoxy have been vindicated at every turn. Obviously not everything has gone perfect but considering the amount of disasters faced, we've suffered far less than in the past.
US federal debt is 30 trillion dollars. If the federal government had to pay 10% interest on its debt, it’d require almost all of federal spending be paid on our debt.
Of course that’d never happen. Instead they’d just borrow more to pay the interest, which means more dollars would be minted and we’d print several trillion dollars a year in unwanted stimulus each year just paying our federal debt. (Or enter a debt crisis.)
It seems like there should be an intrinsic time-value of money (e.g. 1 stuff today is worth 1.05 stuff next year) which is tradable (supply of future-stuff will equal demand for future-stuff at some rate like 1.05). And that single rate of stuff-interest would exist if the central bank does nothing. If that's true, then in a long-run equilibrium, shouldn't there be zero inflation if the interest rate in dollars (i.e. the fed rate) matches that intrinsic rate of stuff-interest?
Any explanation or links to the same would be helpful! I'm just past the point of grasping the fact that interest rates going down causes inflation to go up, but finding it hard to find sources on anything that give me intuition on answering e.g. how much things would go up if you held one policy forever, and what factors that answer would depend on.
Def not mom-and-pop investors who use pension funds and wealth managers/advisors to keep their investments in (usually) diversified portfolios.
The mechanism of higher rates reducing inflation isn't clear to me.
Does it go down because people with cash choose to park it and earn interest instead of buying goods and services? Or does it go down because higher interest rates make the cost of doing business more expensive which leads to reduction in overall business activity?
If it's by reducing business activity, then seems like the "breaking point" can be at any arbitrary interest rate for a given country in a given year.
Also, if inflation is caused by the lack of supply (like the supply chain issues / chip shortage and such), then I think reducing business activity will only exacerbate the problem by reducing the supply further (and I don't hear anyone explore this angle).
Another reason is that a high enough interest rate makes people sell their risky assets and hold more money until the risk adjusted return on money and risky investments is the same. The latter is a short term effect that actually goes away eventually as paying a 70% interest rate makes the debt problem worse and necessitates even more debt just to pay the ridiculous interest rate.
Wikipedia says we had negative real interest rate since 2010, but it was only -2%, now we have -7% real interest rate.
If I can invest in businesses with 0% return and make a profit, that's generally good for short-term economic growth, and bad for long-term economic efficiency.
I'm not arguing for more or less interest, but I don't think there is a "natural." Interest rates have gone negative several times in several contexts, and the universe didn't explode in a numerical singularity. I am arguing for having reason beyond "we've always done it that way" or "it doesn't make sense."
Why would I lend someone money to get the same amount back (in real terms)? You'd need at least some premium to account for risk of non-payment, changes in inflation, etc.
There doesn't need to be a consistent premium to borrowing money. So if I borrow $1M for 30 years right now the interest rate doesn't have to be 10% because most people assume inflation will come down, so the average inflation over 3 years might be 3-4%, so an interest rate of 5-6% is probably enough of a premium.
1) Risky return-yielding instruments, like stocks and bonds
2) Non-liquid assets, like land
3) A Scrooge McDuck giant vault full of cash
4) ... and so on.
In many cases, a negative interest account works better than any of the above.
Sweden was the first to employ them in 2009, with an interest rate of -0.25%. The world didn't implode, as people predicted. If I deposit $100B overnight at -0.25%, I've lost just north of half a million dollars for that night. That's enough to push me to look for other places to stash my money (stimulating the economy), but not enough to break me (assuming I have $100B, which unfortunately, I don't).
Critically, if the economy is collapsing, and you expect stocks to go down, removing other places to stash money can prop them up.
Yep, you take your $100B and invest it in the US capital markets. Does nothing for Sweden's economy other than make it comparatively less competitive.
If I borrow $1M in USD to buy a 11M SEK property in Sweden, and the dollar goes up, I'm drowning underwater. If the dollar goes down, I'm sitting pretty.
Is this supposed to be some kind of joke? When you have 3% deflation then a -3% negative rate just sets real returns back to 0% like one would expect in a functioning market.
Also, a negative interest rate on cash allows the abolishment of inflation as central banks no longer need to target a positive inflation rate and can instead do price level targeting which is the complete destruction of the concept of inflation itself.
Lower interest payments mean most of the payments go towards the principal which means the money supply shrinks given a sufficient debt brake on government spending.
Negative rates allow 100% reserve requirements to function and mitigate almost all the problems with the loanable funds model which means the central bank doesn't have to control the interest rate anymore.
If anything it is the opposite, if interest rates exceed returns in the real economy, the government has to borrow and spend to stimulate the economy until there is enough inflation to pay the interest rates expected of it.