With economies recovering from the crisis, the robots who make up much of
the economics profession are calling for or contemplating a rise in interest
rates. E.g. see here.
Their basic reason being that central banks have always aimed for a positive
rate, ergo they always should. Likewise ancient Egyptians doubtless also arged
that Kings and Queens have always been buried in million ton pyramids, therefor
they always should be. Similar robotic behavior is found in all cultures of
course.
A permanent zero rate was advocated by Warren Mosler – see 2nd
last paragraph here.
I assume other MMTers think likewise, though I might be wrong there.
Anyway the actual arguments for a permanent zero rate are as follows.
Household spending is related to how large a stock of money households
have: e.g. when people win a lottery their weekly spending rises (revelation of
the century that, wasn’t it?). Or to be more accurate, aggregate spending is
related to what MMTers call “Private Sector Net Financial Assets” (PSNFA). And
the latter is made up of base money plus national debt.
Those two, base money and national debt are actually very similar: at
least they merge into each other. That is, there is no effective difference
between short term debt that pays a near zero rate of interest and base money.
Commercial bank created money, in contrast, is not a “net asset” because
for every dollar of such money there is an equal and opposite debt. That is
commercial bank created money nets to nothing.
To summarise so far, spending is positively related to PSNFA. Thus one way
of regulating demand would be to regulate the amount of PSNFA.
But another possibility would be to have too large a stock of PSNFA while
inducing the private sector not to spend it to the extent that they otherwise
would by having government pay interest to PSNFA holders in exchange for
lending to government, or “lodging PSNFA” with government to put it another
way.
But what’s the point of that? I.e. what’s the point of so to speak
distributing Monopoly money to the population and then inducing them not to spend it by having them
lend it back to government? That is totally insane.
That is not to say that interest rate hikes should never be used to damp
down demand (especially in emergencies). But certainly, the long term objective
should always be a zero rate.
But even the latter use of interest rates in an emergency is debatable in
that the evidence seems to be that interest rate adjustments have little
effect. See here
and here.
But of course pyramid builders, economists and other robots don’t like
empirical evidence that contradicts their long held beliefs.
“P.O.K.” on Twitter responded to the above by saying “…but isn't priv banks willingness to create money influenced by base rate and isn't there an interaction between horiz and vertical”.
ReplyDeleteMy answer is “yes and yes”. (By the way, veritcal money is central bank money and horizontal is commercia bank created money).
However, the fact that commercial banks’ willingness to lend can be influenced by base rates does not prove that’s the best way of adjusting demand. In addition to the two studies I mentioned above which indicate that interest rate adjustments don’t have much effect, there are several further reasons for doubting the wisdom of interest rate adjustments. See:
http://ralphanomics.blogspot.co.uk/2012/03/sixteen-reasons-why-mmt-is-right-on.html
An alternative way of adjusting demand is simply to adjust the amount of money the government / central bank machine creates and net spends (“net spending” refers to spending net of tax: i.e. stimulus can be imparted either by increased govt spending or by tax cuts, depending on your political preferences).
Certainly Positive Money and Prof. Richard Werner favour that way of adjusting demand, and far as I can see, most MMTers think likewise.
Thanks for the clarification, I think I agree, I need to mull this over some more. My particular concern is private bank credit creation which seems to be able to change on a time scale more quickly than the usual government spending/taxing time table. Not only that with respect to lending on assets it can become self feeding leading to bubble ultimately requiring central banks to monetize so as to prevent massive deleveraging. Again I think your correct that interest rates are not the right tool, the problem is central banks seem to want to turn a blind eye to this problem and the election time table for governments means they often have a vested interest in promoting this type of unsustainable credit creation.
ReplyDeleteAre you assuming all other major economies also have zero inteerst rates?
ReplyDeleteOr are you assuming controls to prevent capital outflows?
If domestic interest rates are lower than abroad, wouldn't there be a major effect on domestic investment form local and foreign sources?
And what would the effects be on the exchange rate and thence on the domestic economy?.
Strikes me those sort of capital flows are just as much a problem for conventional policy: i.e. adjusting interest rates so as to adjust demand. E.g. if a country raises its base rate with a view to damping down lending and hence demand, foreign money then pours in so as to take advantage of the higher rates, thus partially nullifying the intended effect of those higher rates.
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