Tuesday, 19 April 2016

Essays and The Grand Monetary Experiment

About two months ago I wrote one of my favourite blog posts here at Life of an Econ Student, where I outlined four exciting areas that makes the current times really interesting for economists and economics-students. These were monetary policy, immigration, potential paradigm shift in economic teaching and the return of economic history.

On monetary policy I argued that it used to be quite uninteresting, but it has become the centre of most financial news since central banks now effectively run stock and bond markets:

after 8-years of interest rate reductions and Central Banks around the world holding them down at or below zero and large-scale quantitative easing, we face an unprecedented future, vastly more volatile financial markets and regime uncertainty at unusually high levels. Will interest rates ever return to normal levels or are central banks sowing the seeds of the next crisis? Should ZIRP & NIRP be the new Central Banking or is a 1920-s hyperinflation inevitable?
How appropriate, then, that my perhaps least realistic course gives me an essay of negative interest rates. I guess my lecturer wants to compensate for all the nonsense in class.

All this reading makes me even more excited about this grand experiment central banks around the world are conducting. Not in the optimistic way, but somewhere along the lines of "how-close-to-the-poisonous-snake-can-I-go". I love making fun of my permabear-friends, but if you scratch me hard enough, there's a cute little cub deep inside...

Just ponder for a second. Interest rate at 0% or lower for 8 years, completely unprecedented - and not in a good way. Theoretically and practically nonsense. The question is not if central banks are distorting credit markets but how badly. And how much malinvestment is occurring because of it?

Even though I have spend quite some time arguing that the massive housing price rallies we've seen in many countries have fundamental causes, there are nevertheless large risks. Nobody can deny that. Especially if central banks ever try to raise interest rates.

It mostly makes me conclude that the Secular Stagnation economists such as Larry Summer (and to a certain extent Robert Gordon) are talking about is probably right - but for different reasons than they think. I'm leaning towards arguments such as Peter Schiff's controversial media statements: the Fed simply can't raise rates - ever.

I'll conclude this somewhat confusing post with a quote from the former governor of the Bank of Japan, dr. Shirakawa:
“Monetary policy can bring forward future demand to today by engineering lower real interest rates. But, when tomorrow becomes today, the economy is faced with lower demand, which necessitates bringing forward demand from the day after tomorrow.”
The future is exciting.

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