Saturday, 12 December 2020

An absurdity at the heart of interest rate adjustments.


Assuming negative interest rates are ruled out, clearly interest on government debt and/or interest on reserves has to be ABOVE zero if interest rate cuts are to be used to impart stimulus. But why ARE interest rates on government debt and reserves ever above zero?

Well the reason is that the authorities are trying to damp down demand: i.e. people can be induced to hold a larger stock of cash than they would normally do if they are offered interest on cash which is locked away for a while (e.g. locked away in the form of interest yielding government debt).  

But demand inevitably varies in some way with the private sector’s stock of cash (aka base money). Thus in order to get interest on state liabilities (government debt / reserves) anything above zero, it is  first necessary for government to issue too large a stock of debt / reserves!

Now what exactly is the point of creating and spending such a large amount of cash / reserves into the economy that it is then necessary to bribe holders of that cash not to spend it by offering them interest on their pile of cash? Or to put it more brutally, what is the point of creating and spending so much cash / base money that it becomes necessary to spend taxpayers’ money bribing the rich (i.e. holders of that money) into not spending it?

Or to put it even more brutally, if you want to impart stimulus by cutting interest rates, it is first necessary to spend taxpayers’ money bribing the rich to hoard money.
And that, folks, is part of the logic behind the MMT “permanent zero rate of interest” idea – at least I think it is.  

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