Low interest rates are here to stay

These are, indeed, strange times on the global interest rate front. 

For borrowers, the good news is that the current historically low level of interest rates everywhere in the developed world looks set to persist for the foreseeable future.

For savers, this represents bad news. While low interest rates are obviously a big positive for borrowers, they represent very bad news from a fundamental economic perspective as they are indicative of economic weakness and extreme uncertainty.

That has certainly been a feature of the world since 2007 and unfortunately there is still much to worry about. China is the latest high-profile addition to the list of things to worry about. 

It would be nice to see the global interest rate cycle gradually moving back up as that would indicate economic recovery, but that looks like a forlorn hope for the time being.

There was a strong expectation, in market circles, that after a prolonged period of zero interest rates, the US Federal Reserve Bank would commence its gradual move back towards interest rate normality at the September meeting last week.

This belief was driven by recent US economic developments which showed growth moving back towards potential and an unemployment rate of just 5.1% in August. 

In the event, the move did not happen last week, and the statement from the Federal Open Market Committee, which sets interest rate policy within the Federal Reserve, alluded to the restraining impact that recent global economic and financial developments may have on the US economy.

This was a sensible decision and shows the US central bank takes its global responsibilities seriously, which is more than can generally be said about its counterpart in Frankfurt.

Given the equity market volatility and general weakness that has erupted over the past couple of months on the back of negative developments in China, a move to increase US rates would not have been a sensible idea. 

As strange as it might appear, the Federal Reserve is mindful of the policy mistake that was made back in 1936 when interest rates were prematurely increased, and the Great Depression was prolonged.

It is good to see a central bank that is cognisant of past policy mistakes and which recognises its international role.

One wonders if the European Central Bank would act as responsibly. Back in July 2011, the ECB made the bizarre decision to increase interest rates, obviously in the belief that the global economic and financial crisis was over and that growth and inflation would quickly ensue.

Although the increase was a very modest 0.25%, its symbolic importance was crucial. This was obviously a very wrong call and the ECB was forced to start cutting rates again in November 2011 and over the following three years the official interest rate was taken all the way down to just 0.05%, which is where it stands today.

With the eurozone economy still growing well below its potential, and with the unemployment rate in the area at a high 10.9% of the labour force, near-zero interest rates represent the most appropriate interest rate stance and will continue to do so for the foreseeable future.

Central bankers across the global financial system share a common aversion to inflation, with the degree of aversion obviously varying from jurisdiction to jurisdiction. 

Inflation is not a problem anywhere at the moment with the headline rate of inflation at just 0.2% in the US and 0.1% in the eurozone. All the indications are that inflation will remain a non-issue for some time yet.

Spare economic capacity, high unemployment, high government debt levels and consequent tight fiscal policies, globalisation and the forces of global competition are all combining to exert downward pressure on prices. 

In addition, commodity prices are falling, with oil prices down by over 52% over the past year and global food prices down by over 10%.

Inflation is not an issue that should be discussed at civilised dinner parties, which means that the environment for those with tracker mortgages will remain nirvana-like, and life will remain challenging for savers.


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