Since the economic collapse, the Federal Reserve has suppressed interest rates and kept them at near zero, though the Federal Open Market Committee (FOMC) has hinted at a rate hike sometime next year.
Philadelphia Fed Bank President Charles Plosser spoke in an interview with CNBC on Tuesday that keeping rates too low for too long should have the United States central bank worried. Plosser, who is a top policymaker, noted that there is no reason to keep interest rates at near zero, particularly when the labor market is improving.
One of the official reasons why the Fed has persisted in maintaining record-low interest rates is because inflation continues to stay below its target rate of two percent, though as former Reagan budget director David Stockman purports, that’s essentially “a Keynesian con job.”
Plosser averred that there have been many indicators signaling that rates are too low right now.
“We have been at zero for nearly six years and there is no precedent in history, even when inflation is too low, to have rates at zero when unemployment rates are as low as they are,” said Plosser. “We are really behaving in a way that is outside historical norms and that should make us nervous.”
The Fed policymaker is scheduled to step down from his Philadelphia post next spring. In the meantime, he remains one of the minority supporters for shutting down the books on cheap money prior to the supposed spring deadline, a time when most see rate hikes transpiring.
Fed fund rates are the lowest they’ve ever been. Since 1971, the only other time they’ve been nearly this low was during the economic boom in the early 2000s when the rate was just under two percent.
Nevertheless, a central body shouldn’t be the anointed one to decide what interest rates should be. This type of manipulation sends wrong signals to the marketplace, consumers and businesses. Whether rates are artificially low or high can incorrectly inform consumers that they should now save or spend, wrongly tell businesses they can invest or save and mistakenly let financial institutions know if they can lend out loans or scale back.
Ostensibly, Austrian Economics dictates that interest rates act in the same way as prices do: sending messages to the marketplace.
Richard Ebeling eloquently writes on the basis of market interest rates in this Mises post:
“Market rates of interest balance the actions and decisions of borrowers (investors) and lenders (savers) just as the prices of shoes, hats, or bananas balance the activities of the suppliers and demanders of those goods. This assures, on the one hand, that resources that are not being used to produce consumer goods are available for future-oriented investment, and, on the other, that investment doesn’t outrun the saved resources available to support it.
“Interest rates higher than those that would balance saving with investment stimulate more saving than investors are willing to borrow, and interest rates below that balancing point stimulate more borrowing than savers are willing to supply.”
In addition, as economist Robert Murphy opined last month, Fed fund rates have a correlation with money supply:
“The textbook description of open market operations, and how the Fed uses them to raise/lower interest rates, seems to match up decently with the chart above. In the early 1990s, when the fed funds rate (red line) fell, the monetary base (blue line) grew rapidly. Then when the Fed started raising rates going into 1995, the monetary base growth fell sharply. There was a high spurt of base growth in the early 2000s which coincided with Greenspan’s (in)famous rate cuts, and then base growth trended downward as the Fed ratcheted up rates from 2004 onward.”
Indeed, a low-interest rate environment is good news for governments and politicians because they spend money and place it on the credit card without having to worry about too high debt servicing payments, thus politicizing the Fed, a constant argument made against reigning in the U.S. central bank.
However, there are indicators everywhere that they are beginning to climb, which won’t bode well for the next Republican or Democratic administration that will just continue the trend of spending money.
Steve Godenich says
Yup, a balanced budget amendment with a rider for a GDP::Debt Indexed Liquidity Complement (minimum income with a gradual and smooth claw-back) would economize that leviathan and win voters for the lucky politician.