Bernanke Fed Drives Deflation With Zero Rate Policy

rc whalen's picture

Last week in The Institutional Risk Analyst, my friend and former colleague from the Fed of New York, Richard Alford, opined on the Fed’s use of “quantitative easing” to help the U.S. economy.  In “Double Dip Economy: Does Quantitative Easing Really Matter?,” Alford asks whether the Fed is actually taking effective action to boost the economy.  He writes:

“It is unclear why proponents of quantitative easing or ‘QE’ inside the Federal Open Market Committee (FOMC) are confident that it will be the answer to our current economic woes. Many of the arguments and models linking QE to improved performance of the real economy are unsatisfactory… More importantly, the only available empirical analyses available suggest that QE, when employed in Japan, had little if any effect at all on GDP, inflationary expectations, or measured inflation.”

While many economists are worried about whether or not the Fed should increase quantitative easing, my concern has been and remains the toxic effect of the Fed’s intervention on what remains of the private financial markets.  Fed officials and members of the Obama Administration wring their hands over individuals and companies saving too much, but perhaps they should ask why.  It starts with zero interest rate policy.

The liquidity and market risk being created in markets by the Fed’s zero rate policy such as structured notes and OTC interest rate swaps should be all the argument needed to convince the Federal Open Market Committee to make changes to current policy and raise interest rates.  Take an example. 

The Fed is paying banks next to nothing to park $1 trillion in excess reserves deposited with the central bank.  The Fed should drive rates for bank reserves down into negative territory, essentially penalize banks for not lending or investing in private assets.  The Fed should also “suggest” very strongly that it is time for the large dealers to put some of these reserves to work in the market for mortgage backed securities and other private assets.  See the prescient comment by Alex Pollock of American Enterprise Institute from May 2009 in this regard.

By imposing a negative interest rate on bank reserves of say 0.5%,  the Fed would be signaling to banks that the party is over.  Very quickly banks would take their cash elsewhere.  As Alford notes and other risk managers know, assets move for price.  But this is not to suggest that the Fed should be keeping interest rates low.  Quite the opposite. As a growing number of analytics understand, the Fed should begin to manage up the target yield rate on short-term U.S. Treasury debt.  This may sound like madness, but low rates are killing the U.S. economy and have created an interest rates trap for financial institutions and other fixed-income investors. 

One of the things that most people do not understand about QE is that by purchasing massive amounts of government bonds and mortgage securities, and not hedging these exposures a la Fannie and Freddie, the Fed is removing equally massive amounts of duration from the fixed income markets.  From an investor perspective, duration measures how much the price of a bond changes given a change in market rates.  Duration is a measure of a bond's volatility, at least in normal markets.  From the perspective of a borrower or issuer of securities, however, think of duration as the time value of money measured in weight. 

When the Fed buys securities through QE, it is removing duration from the markets, pushing down yields and volatility.  For a while this boosts the net interest margin (“NIM”) of leveraged investors such as banks, who are able to borrow at lower rates to fund current assets.  As assets re-price to the low rates maintained by the Fed, however, NIM begins to disappear.  Over the medium to longer term, think of duration and NIM as being linked, so obviously a sustained period of QE is bad for NIM.  This is why NIM in the U.S. banking sector is starting to fall. 

Let’s recall Inside the yield book: the classic tome by Sidney Homer and Martin L. Leibowitz, which created the science of bond analysis:

“The Macaulay Duration of any cash flow becomes large as interest rates fall.  One might be tempted to conclude from this observation that very low interest rate environments can be very treacherous.  When rates can only go up, and when the price sensitivity of any given cash flow is near its maximum, it’s a pretty toxic combination.”

Homer and Leibowitz wrote at a time when markets were artificially stable.  Right now, the markets believe that equities are dangerous and bonds are safe, but the fact is that all financial assets have been rendered speculative by the Fed’s irresponsible pursuit of reflation via QE.  Volatility levels indicated by major market indices are greatly understated and do not reflect the true degree of price risk facing all bond investors.  In particular, banks which have used OTC derivatives and short-term funding to enhance NIM face major losses as and when QE ends and visible durations extend.

Over the next year, banks, retirees and other interest rates sensitive investors are going to see their cash flow fall further as zero interest rate policy drains the NIM from the dollar financial system.  Not surprisingly, these same individuals and organizations are cutting expenditures to reflect falling cash flow on their investments.  Could this be part of reason behind the retail flight from equities widely reported in the media?  One of the smartest people I know, a retired Goldman partner, said this today in an email:

“I think the bond  market is an error waiting to happen…The biggest buyer in the last 6 months has been the banks, but look at the price of JPM and BAC!!!! These guys think the Fed will stay at zero forever.  They just bought a 1.36% 3 year note…  Chris…if the price falls 1.36 points they lose all the coupon.  Everyone from Grant to Rosenberg all think the long bond is going to 2%..they are nuts.  Banks are losing commercial loans and credit card outstandings and replace it with TSY paper?????? Nuts.”
The Fed’s zero rate policy is feeding deflation by reducing the yield on all investment assets to below economic levels.  And the huge price risk embedded in under-priced fixed income securities represents the next bubble in financial assets.  This situation reveals and confirms yet again that there is no free lunch and also that they do not teach the real world rule of unintended consequences in economics class.

“It is not the cost of borrowed money that is stopping firms from investing,” notes my friend Richard Field, who argues that falling interest income to millions of American retirees is taking points off of GDP.  “It is the lack of demand from the individuals who could previously afford to buy.  Talk about a foreseeable negative feedback loop.  The Fed apparently missed the real lesson of Japan.”

By keeping interest rates at zero, the Fed is forcing individuals and corporations to save more.  If interest rates are zero, then savers must put away the terminal value of their required retirement nest egg, which is currently infinite.  If short-term interest rates were 2%, that would require savers and corporate treasurers to save much less since interest rate compounding would help.  Instead the big banks and mortgage giants such as Fannie and Freddie are milking the Fed’s zero rate policy as long as it lasts, while consumption and employment in the real economy literally implodes thanks to that very same Fed policy.

The answer?  It is time for the Fed to declare the end of the crisis and raise interest rates.


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Waterfallsparkles's picture

In the past many would keep Money in the Bank at say 4% and still maintain a Credit Card Balance.  Now instead of People putting money in the Bank they are paying off or down their Credit Card balances, their Car loans and even making principal payments toward their Mortgage.

I think Americans know that if they pay down a Credit Card Bill that is at 18% that they are actually making that return on their money by lowering or eliminating Debt.  I think if you look at last months Credit Card number reporting you will see that the average amount of Credit Card Debt for individuals went down. 

When the Credit Card Companies raised rates to 18 to 29.99% it caused a few reactions.  Anyone that could pay off their Balances did.  The took money out of their 401K, Savings to pay off their Balance.  I know, I did.  This took money out of the Banks Savings accounts, the Market ABSOLLUTELY necessary as they do not want to run the Balances back up at 20%.

The FED and the Banks have shot themselves in the foot in my opinion.  By raising Credit Card Interest they have caused everybody to either pay down or off their Balances and if they cannot pay them off they Default.  They are losing the revenue from what was 10 to 14% interest on Credit Cards to 0% return.  Now the most profitable part of their Business is down the drain.  People are not willing to put their Money in the Bank at .05%  interest.  So, the Bank does not have that Money to invest in the Market.

People are pulling Money out of the Market to pay down or off Debt.  WHY?

It is because they can get a guaranteed return of the interest they pay on their Debt.  Pay off an 18% Credit Card and your return on your money is 18%.  Pay off a Car loan at 5% and your return is 5%.  Same with your Mortgage.  Pay down your principal and what ever you are paying in interest is your return.  So, why risk money in the Stock Market when you can get a guaranteed return by paying your debt down or off.  Plus, you get the advantage of feeling more in control of your life with limited Debt.  You can work less which means paying less in Taxes.  Yet, that topic is for another time.

I agree with your analysis and think that there are more ways that the FED's policy is disrupting Markets, spending, saving, Debt, etc.

Waterfallsparkles's picture


This took money out of the Banks Savings accounts, the Market ABSOLLUTELY necessary as they do not want to run the Balances back up at 20%.


This took money out of the Banks Savings accounts, the Market, 401K's, etc.  People will not Charge any purchases unless ABSOLLUTELY necessary as they do not want to run the Balances back up at 20%.

Coldfire's picture

When it comes to interest rates, there are two kinds of people: those who don't know and those who don't know they don't know.

MrSteve's picture

A rate of EXTREME INTEREST is the FDIC coverage ratio, posted at Minus .38%- see at:
Quarterly Banking Profile – First Quarter 2010
Insurance Fund Indicators
Estimated insured deposits (based on $250,000 coverage) increased 1.3 percent in the first quarter of 2010. The Deposit Insurance Fund reserve ratio rose 1 basis point during the quarter to -0.38 percent, and 41 FDIC-insured institutions failed during the quarter.


The FED will pump as it did for decades to fight BOJ's deflation for a long time to come. ZIRP is the New Deal so senior citizens will have to eat pet food while 1/8th of Americans currently eat on USDA Food Stamps.

JR's picture

I’ve waited a long time for this article, Chris. It says many things which most need saying but have not been said.  Well done. 

As you say, “By keeping interest rates at zero, the Fed is forcing individuals and corporations to save more.

“Over the next year, banks, retirees and other interest rates sensitive investors are going to see their cash flow fall further as zero interest rate policy drains the NIM from the dollar financial system.  Not surprisingly, these same individuals and organizations are cutting expenditures to reflect falling cash flow on their investments.”

And, as Henry Hazlitt said, “It is obviously a process involving cumulative danger.”  Yet, in the end,  “The Money rate can, indeed, be kept artificially low only by continuous new injections of currency or bank credit in place of real savings.  This can create the illusion of more capital… But it is a policy of continuous inflation… This money rate will rise and a crisis will develop if the inflation is reversed, or merely brought to a halt, or even continued at a diminished rate.”

Talk of a conundrum from manipulation gone wild. 

Hazlitt, in The Failure of the “New Economics” demonstrates with statistics that Keynesian remedies often have precisely the opposite effect of those intended-- on high unemployment, business failures, and other symptoms of economic maladjustment

Says Hazlitt: “Keynes recommends two main remedies. One is deficit spending (sometimes euphemistically called government ‘investment’). How good is this remedy? It was tried in the United States (partly because of Keynes’ recommendations) for a full decade. What were the results? …

“The central and decisive fact is that heavy deficits were accompanied by mass unemployment. …

“The other main Keynesian remedy for unemployment is low interest rates, artificially produced by ‘the Monetary Authority.’ Keynes incidentally admits … that such artificially low interest rates can only be produced by printing more money, i.e. by deliberate inflation. But we may let this pass for a moment. The question immediately before us is: Did low interest rates prevent mass unemployment? …

“In sum, over this period of a dozen years low interest rates did NOT eliminate unemployment. On the contrary, unemployment actually INCREASED as interest rates went down. In the seven-year period from 1934 to 1940, when the cheap money policy was pushed to an average infra-low rate below 1 percent (.77 of 1 per cent) an average of more than 17 in every 100 persons in the labor force were unemployed.”  

Again, thanks. You have documented similar failures of the "new economics,"  this time coupled with the "new corruption." Could be that Bernanke is producing the Great Depression he so assiduously studied allegedly to avoid. Only this time, it may lead to systemic collapse headed into a hyperinflationary Great Depression.

blindman's picture

yea, it is the inflation of low interest rates in a debt based system

that make the economic environment unattractive for the

industrial sector.  so production moves out, killing employment.

keen said it / hudson / c.marx / g. marx knew it / g,w.'s latest points to r . reich saying it

and the current development of more m&a and more foreign investment

to come with more qe.  

the financial sector blows the bubble for a price and then profits and watches as it collapses

and ends up at the end of the cycle owning/foreclosing on the assets.   that is

the way it is designed to work.  


the fed., like the defense industry, has other priorities well beyond "domestic" security

and economic health/well being.  they work for the usa only in name or on paper.


and this qe to increase employment idea is pure cover, a known lie, to mask more

refinancing the bankrupt derivatives market and big banks by other means.

Hang The Fed's picture

I like this seems to paint a fair picture of where we stand as of now.  However, I take issue with the conclusion.  I don't believe, in any way, shape, or form that the Fed wants anything to get better for investors.  Rather, I think that they'd like to continue holding the little men down just as long as they can.  We can run from the current instability and manipulation of equities and pile into increasingly worthless bonds as a form of "safety," but how safe is it, really?  Is there anyone out there who really believes that these jackasses want to save us?  Or, is it more likely that we can expect further wipe-outs of investment in any context as a method of further deprivation and thus, control?

As some GI spook once said, "if it looks like a duck, and sounds like a duck...then it's probably a duck."  I think that we sometimes forget that the supposed purity of the markets is not without contamination from the machinations of a couple of shifty characters who have long wandered the roads between big banks and government positions.  Dr. Ben and Turbo Timmy seem rather complicit by default in failing to give anyone but their best-butt-buddies a chance in this wreck of a system.  It's sort of amazing, when you think about it...a bunch of insurrectionists used musket balls and guerilla warfare to drive out and break free from the most powerful empire of the age, and then drafted a document which was intended to prevent such abuses from ever occuring again.  Now, just a scant 231 years later, the entire thing has been turned upside down for the purpose of marginalizing the greater populace to prop up the sociopathic elite.  Very good...we've really come a loooonnnnngggg way, haven't we now?

knukles's picture

Who cares at this point?
The system is awash with Bazillions of dollars of net free reserves that ain't being used for loans because there ain't any borrowers of above threshold levels beating down the doors to take down loans from banks willing to make loans thereto, so the bank sits on cash at the Fed of in treasuries, agencies, CP, whatever.

To add more excess reserves is like pissing more rain on Pakistan because some day it will get dry.

To charge a negative rate will only cause the bank's DDA balances to be shifted from a deposit at the Fed to another vehicle, like T-bills. 

And ain't nobody gonna borrow with uncertain economic expectations, boundless new regulations, potential higher taxes and continued mass confusion at all levels of the government. 
For example, government inplements policies to keep the price of houses up when the whole idea is to make housing affordable and get people into homes which would be accomplished with...lower prices. 

It don't matter no more.  Moot points.  The Fed's done, fin, empty.  Done all they can, ain't no more to give.  Period.  QED.

RockyRacoon's picture

I just hope I live long enough to see a few jackass bankers take a big ole bite of this shit sandwich.  The longer it takes, the more fermented the vittles will be.

Dreamwalker420's picture

for rc whalen,

Your words seem to be legitimate.  But it incorporates the principal problem of pandora's box: that government, and or the Fed, should intervene in capital markets to choose winners and loosers.

Why should any government institution or private cartel of bankers be allowed to wield such powers?

Simply ... they shouldn't.  The expectation that government can and will solve the problem is an absurdity.  It acts like cocaine on the economy.  At first, easy credit poloicies lead to massive expansion and then the Fed uses tax payer dollars to bailout the banking oligarchs at the expense of the rest of society.

End the Federal Reserve System.  It is a bankrupt lie plaguing our nation.

Rates should be determined by the capital markets.  Deflation is not indicative of a "problem" for government to fix.  Deflation doesn't mean that capitalism is somehow not functioning.  Deflation rewards savers more than asset holders, it is the Darwinian balance of economic forces that brings to bear unintended consequences.


Eliminating the power to choose winners and loosers ... the question of rewarding banks vs. savers becomes irrelevant.

How then does the economy recover? 

The temporary shock from doing what is necessary as a society to deal with the massive fraud of quantitative easing, the Federal Reserve Note, and TARP will be painful.  NOT DEALING WITH IT RIGHT NOW WILL BE EVEN WORSE.

My small business has no access to capital.  Despite SBA guaranteed loans, the banks still will not loan out the capital necessary for business innovation.  Why should they?  They know deflation is in the works.  They expect to remain at the top of the economic system and they will remain there as long as the government gives sanction to their cartel and fake fiat currency.

My economic plan lays in limbo as I listen to our leaders quibble about $50 billion dollars here and there.

Unemployment is 20 to 30 million people.

At minimum wage (which is price fixed by government to ensure small businesses cannot grow against systemically important financial institutions) would mean $6 per hour for 30 million people = $180m per hour for an 8 hour day is $1.44 billion.  $1.44 billion is $7.2 billion per week to send a free paycheck to every unemployed person for full time for one week.  Total cost of unemployment for one year is $375 billion dollars.

Fix roads.

Lower teacher to student ratios.

More police officers to investigate crime and not waste their time on speeding tickets.

Why is this such a difficult policy decision?  Congress gave the banks $750 billion ... enough for creating jobs for all the unemployed in America for two years!!!

Who got that money?  Not taxpayers.  Not savers.

International Banks received the lions share from policy bailouts.  Our Congress chose the winners = banks.

And the loosers are the voters who don't understand that MORE socialism IS NOT THE ANSWER.

Unemployment benefits are a joke.

HAMP and TARP legislation is a joke.

Stop allowing the government to sell itself to the banks that strangle the economy and most, if not all the problems of the American economy will cure themselves within months.

Let people choose their own destiny.

Let deflation take its natural course.


DoctoRx's picture

I too would like to dream nice libertarian, free market dreams.  You and some other commenters are on the right path.  Whalen would IMHO be a better Treas sec'y than Timmay or Hank, but he's not a libertarian.

boomer's picture

The boys in the club aren't interested in your whining, as far as they are concerned everything is working perfectly.  Their getting rich beyond your wildest possible dreams and there isn't a damn thing you can do about it.  Just how do you propose the "people" do anything about any of this?  All the "people" are interested in is the new season of "American Idol".  This fat, stupid country is getting exactly what it deserves.


A functioning democracy demands and informed citizenry.

Shiznit Diggity's picture

Very illuminating piece. You're insights are much appreciated.

sbenard's picture

The U.S. economy has been transformed into the world's biggest guinea pig! And we are to rejoice? I'd say, "Run for cover!"

surfsup's picture

Good thesis in the article.  Credit is NOT the same as capital formation.   

Nevermind's picture

1) Social mood has created the "new austerity"

2) Older workers aren't retiring because of ZIRP (no income to live off)

3) Ergo, younger workers don't get those jobs

4) Housing price "inflation expectation" remains unrealistic with inventory

5) Bank robbery has a new meaning with ZIRP and outrageous fees

6) Bernanke's vanity and arrogance far outweighs ANY rational arguments

tony bonn's picture

super good article with one huge flaw: "...By imposing a negative interest rate on bank reserves of say 0.5%..." the fed would unleash the massive hyperinflation that is oh so dormant due to money being locked in the fed probably in the form of t-bonds and other forms of fed crap....

antal fekete has made whalen's point about the treachery of falling and artificially low interest rates for years....glad other folks are getting the drift.....

lynnybee's picture

the U.S. & EUROPEAN banking system are insolvent.    thank you, Robert Rubin & Bill Clinton.   thanks for the mess, Alan Greenspan.   i thank you, my children thank you & my unborn grandchildren thank you.   civil unrest, inflating away the debt, to what end ?!  ..... the ruination of the average person.

Reese Bobby's picture

In my humble opinion this is written by a Ponzi scheme insider who believes that the proper policy “adjustments” will steer us out of the current “difficulties.”  These are my thoughts on his disjointed analysis:

By imposing a negative interest rate on bank reserves of say 0.5%,  the Fed would be signaling to banks that the party is over.  Very quickly banks would take their cash elsewhere.

You assume the banks are solvent.  Would you bet something you care about that Citigroup, BofA or Wells Fargo have real positive shareholders equity?  Banks are holding reserves because they know a downturn in financial markets sends them right back into the abyss.  They will pay 50 bps per year to maintain the safety net.

“It is not the cost of borrowed money that is stopping firms from investing,” notes my friend Richard Field, who argues that falling interest income to millions of American retirees is taking points off of GDP.  “It is the lack of demand from the individuals who could previously afford to buy.  Talk about a foreseeable negative feedback loop.

The Fed doesn’t care.  They need to TRY and continue to nurse the banks on the slow road to health with free carry on the backs of savers.  I think they call it the “fuck mom and pop” plan.  And as an added bonus they have savers buying credit risk at dumb prices. Yeah!

By keeping interest rates at zero, the Fed is forcing individuals and corporations to save more.  If interest rates are zero, then savers must put away the terminal value of their required retirement nest egg, which is currently infinite.  If short-term interest rates were 2%, that would require savers and corporate treasurers to save much less since interest rate compounding would help.

Corporations win on the borrowing side of the rate equation; it is a push on average.  Individuals are pretty screwed anyway; the average person will be wards of the State when they can no longer work.

It is time for the Fed to declare the end of the crisis and raise interest rates.

I think it is time as well.  It would speed the end of the Fed, which would be a good thing.  But I’m pretty sure their Masters won’t allow that.


lynnybee's picture

I know what will work !!!    We could fix this mess right now !!!!    I find a job that pays a decent wage of at least $15/hour, I get to use some of that money to pay my bills & I can actually save a little money in a bank & earn 6% interest on my money on deposit !!  You know, just like we used to do BEFORE certain people decided to manipulate the economy to their advantage & force speculation.    

three chord sloth's picture

Ooo wait, wait... we've got a better idea!

We can hire a bunch of Chinese people at 75¢ an hour, we can scold you for not paying your bills with your imaginary job, and the Chinese government can send all of their dollars directly to the US treasury by buying our debt! Brilliant! Would you buy T bills with your $15/hr job? Hah! We don't think so... But the Chinese buy lots of them. Better they get the jobs than you!



Moneygrove's picture

and you think the people are going to let you keep this money ?? let them eat cake old boy ?? watch what happened in new orleans 5 yrs ago because you maybe be next ???????? maybe not ???

AUD's picture

I'm not sure this emphasis on the target cash rate or 10yr yields is achieving anything.

My research has shown me that the actual interest rate means little, for example, here in Australia the RBA was raising the cash rate from early 2002 right through to 2008. Was this a 'tightening' of monetary policy? With the intention of reducing 'inflation expectations'... or something?

Hell no! The stockmarket was booming, real estate skyrocketing.

So what was going on?

The RBA was being extremely imprudent in compressing money market spreads to outrageous lows, as if there was no difference in risk & thus price between bbb & aa corporate bonds.


By 'repoing' enormous quantities of 'private securities'. What are these 'private securities'? Most probably junk, which is why there was such a run on the AUD back in '08. The RBA was completely illiquid & required a 'deposit' of USD from the Fed to meet its liabilities.

Not only was the RBA repoing large quantities of 'private securities' the duration (as in term) of the loans it was giving was increasing from 2002. There is no way the RBA didn't know that things weren't rosy, it was perpetuating the 'boom' with highly 'inflationary' monetary policy despite raising the cash rate.

It's not the quantity of $ central banks issue that's the issue, it's the quality of the 'assets' they hold to match their liabilities that counts. To wit, the quantity theory of money is bogus.


Dork's picture

Raising rates now is like flooring the gas pedal as the car swerves downhill out of control.

Not good.

Better to keep rates low, be very patient, and let time reduce aggregate private debt outstanding ... THE PROBLEM.

Yes, it's a pain to wait five years, but, it's better than raising rates and having the system crash BIG-TIME, +35% unemployment, police with dogs on the streets, and, World War III to keep our egos in check.

Where were you reckless rate-raisers 5-15 years ago when aggregate private debt levels were heading into the stratosphere, mega unregulated derivatives following, and, The Glass–Steagall Act burned at the stake to rabid chants of FREE-MARKET!!! FREE-MARKET!!! ...???

Patience is a virtue. If you get bored, suck your thumb.

surfsup's picture

Funny how artificial sustention works isn't it?  Usury is just not designed to last -- its like watching the wings crumble away and the pilot coming on the intercom saying: "its okay as we drop in altitude we will gain in airspeed even though our wings are becoming ever smaller... Grandpa's old beat tractor is not gonna get ya as far as a real honest to goodness monetary system.  You can kick it, spank it, yell at it, be patient for it to rev back to speed but sometimes ya just have to upgrade it.  Kick the can works only so long as it does...  Rates up -- rates down -- the hell with it -- no interest EVER.   Colonies did it until George killed it...  Better than sucking one's thumb any day...

Credit is not the same as capital formation, obtw

CB's picture

oh come on....the fed should just internally combust and put us all out of its damned misery.

NoVolumeMeltup's picture

I can see that being proposed at Jacksons Hole.

"Hey guys, why don't we just all go FOAD?"

"Hear hear..."

"Capital Idea, old boy"

etc, etc

pitz's picture

I disagree; interest rates for much of the past decade have been far too high, relative to real economic growth.  There was no legitimate recovery in 2004-2005, and no reason to raise interest rates.  Shutting down or severely limiting the impact of Fannie Mae/Freddie Mac, and regulating derivatives, would have provided all of the tightening necessary to quel inflation in the 2005-2007 timeframe.

Now, old people, who own most of the bonds, have plenty of money.  They're, by far, the richest class of people in society, and they don't tend to spend much.  Raising interest rates, to benefit them, would do a massive disservice to the young, who need highly inflationary economic policy to make ends meet on their own debts.

Besides, with low interest rates, the fixed income crowd can sell their bonds for top dollar if they want to spend.   There's absolutely no rule out there that investors are only allowed to spend coupons.   So they're not exactly disadvantaged.  Fixed income from 2000-2010 has been the best performing asset class outside of commodities.  I find an article that proposes to give more return to fixed income investors to be, in a word, ludicrous, as a proposal to drive economic recovery.  What this economy needs is strong policy that is supportive of equity owners, so they see a return and can start re-investing and generating activity.  The availability of cheap equity, and not of cheap debt, is the driver of economic activity.  Push the stock market up to the 50-60 P/E it deserves given current bond yields, and normalized earnings, and the economy will most certainly take off.  Dow 36,000, and not 2% 10-year notes, is what we need right now.

rc whalen's picture

Pitz:  About a third of the U.S. economy lives on interest income based on age demographics.  Whether we agree or not does not matter.  You reduce the aggregate income to this group by trillions of dollars and they will spend less, and thus less GDP.   Chris

sbenard's picture

Chris, I know that in the case of my 81-year-old mother, the case you have stated is exactly correct. Contrary to what pitz says, as a bondholder, she is not "filthy rich". To the contrary, her earnings on fixed income investments is so poor and so meager than she has been forced to scale back her spending significantly. Fewer travels, fewer vacations, fewer visits to grandchildren, fewer used car purchases, fewer repairs of her home, fewer birthday and Christmas presents, etc. All this while she is largely unaware of the grave risks of these bonds if a sudden sell-off or interest rate rise occurs. This artificial Fed interest rate repression is having a devastating impact on her lifestyle. And it is impacting all of her family too!

In her case at least, you are absolutely right! This zero interest rate policy is not only destructive. It's CRIMINAL!

pitz's picture

Sure, but we're not talking about overall economic output, but rather, favouring one group of investors (you propose, to favour investors in debt), over those of another class (ie: I favour equity investors).  The money that isn't spent by that 1/3rd bondholding class, gets spent by the equity holders.  The end goal is to increase overall economic output, and it is my suggestion that the past decade of bondholder-friendly policy, culminating with QE, has produced an utter disaster in that respect.

The people who we need out there spending, consuming, and creating economic activity aren't able to.  While the bondholders are filthy rich.  So creating policy that favours those in need obviously will have a much greater impact than merely giving "grandma" slightly higher coupons that won't be sustainable anyways if the real economy keeps collapsing under the burden.

dlmaniac's picture

Wrong. To the completely contrary to the mainstream thinking that spending money drives economy, it's saving money that does.


Savings are not sitting there idle. Savings are the necessary ingredients of capitals that should be invested in a sound business to not only generate positive return but also make the society more productive. Using savings the right way could benefit the savers, the investors, the bankers, the society and just about everyone.


It's up to the holders of the savings (banks or treasury department) to make good use of them. Unfortunately they not only squander everyone's savings on stupid bubbles or wars but also impose a lunatic zero-interest rate to discourage savings while people on the main street are doing the right thing to save money. This economy cannot recover until they stop such 0 rate madness and replenish the savings.

dark pools of soros's picture

let me finish my fha refi next week first though...  from 5.5 to 4.25....then let it shoot the moon :) 

Thomas's picture

I'm still wondering how a dozen permaboobs have so much say in the most important market in the world. Somehow we have totally lost all definition of capital as some form of savings. I can assure you that if the free market worked and I set aside some savings to be loaned out, I would demand higher rates. Alas, the FOMC has locked all the doors so I cannot escape without taking risks that are, in my opinion, inordinate. Consequently, I am forced to take a loss in treasury-backed money market because a bunch of clowns feels the need to bail out a much bigger bunch of clowns. Hang 'em from lamp posts.

pitz's picture

But cash/bond 'savers' have seen incredible returns over the past decade.  The problem is, there's not enough equity in the system to soak up the savings and put them into productive use. 

"zero interest" really isn't a 0% rate of return.  In fact, over the past 10 years, even holding cash underneath your bed has increased its purchasing power relative to people who 'saved' and bought equities, or basically anything other than commodities or gold.