Guest Post: What Could Cause Interest Rates to Rise?

Tyler Durden's picture

Submitted by Charles Hugh-Smith of OfTwoMinds blog,

There is an interesting paradox at work as central banks suppress interest rates.

Correspondent Mark H. recently asked: "What is your take on what the outcome will be if/when interest rates start rising?" Let's break this excellent question into two parts: 1) what might cause rates to rise, and 2) what consequences will likely result from rising rates/yields?

There are two articles of faith in the central-bank religion:

1) We can keep interest rates near-zero for as long as we deem necessary, and

2) We can suppress inflation at will, too.

The question is: can they do both at the same time for as long as they wish?

If either interest rates or inflation (and they are correlated) start rising, the central banks' claims of control evaporate.

There is an interesting paradox at work here:

The only way central banks can keep interest rates low is to buy the bonds issued by their respective governments, i.e. monetize the sovereign debt. They do this by creating money out of thin air, i.e. expanding their balance sheet with government bonds and other debt instruments such as home mortgages.

Theoretically, the Federal Reserve could continue to artificially suppress rates by expanding its $3 trillion balance sheet to $30 trillion.

Since there is an unlimited buyer for low-yield bonds (the central banks), there is no market pressure for higher rates. Why raise yields when you can sell trillions of dollars of low-yield bonds to the Federal Reserve, Bank of Japan, etc.?

By buying the new debt with newly created money, the central banks have marginalized the market's ability to transparently price risk and credit: the bond market has in effect been captured by the central banks, who can counter any reduction in demand with newly created money.

But the central banks don't control where all this newly issued money goes. If it goes into the real economy, it triggers inflation; if it goes into assets, it inflates asset bubbles.

Inflation and bubbles have consequences. Inflation eats away at the purchasing power of wages, and since interest rates are already near-zero, the central banks' game of enabling lower payments by lowering interest rates has run out of room. Once inflation kicks up, the central banks will not be able to fight it except by raising rates, which will quickly choke off consumer spending and the auto and housing markets.

If the central banks keep pumping money into asset bubbles, they are playing with a ticking time bomb, as every asset bubble in history eventually pops: the bigger the bubble, the more spectacular the implosion. The more the central banks inflate assets, the deeper the eventual crash.

Inflation and asset crashes share one characteristic: they undermine the credibility of the central state and central bank. The Federal Reserve and other central banks have claimed monetary omnipotence for years, and they have staked their credibility on keeping inflation and interest rates low and boosting the prices of assets such as stocks and bonds.

Higher rates undermine both stocks and bonds. Every existing bond loses market value as rates climb, and the reason to own a stock paying a 2% dividend fades rather quickly when bonds start paying 5+%. Needless to say, rising rates that choke off consumption won't be positive for corporate profits, either.

In other words, the central banks can't have it both ways. If they keep printing money (expanding their balance sheets), the new money will go somewhere. If it goes into the real economy (no sign of that yet), the flood of new cash will spark inflation in at least those resources and goods where labor costs are not the primary factor (oil and agricultural commodities, for example).

Since labor is in over-supply (see How I Became a Trillionaire (and Some Thoughts on Inflation), this will not be the sort of inflation where wages will rise along with the cost of goods and services: wages will continue to stagnate as costs of essentials rise. That is a recipe for stagflation and recession.

If the flood of central-bank money continues flooding into assets, eventually it chases essential commodities such as oil and grain, sparking inflation via the back door, not from supply-demand issues but from money-printing-driven speculation.

All the central-bank inflated asset bubbles will pop, impoverishing those who gambled with debt (margin) and triggering yet another financial crisis.

Only this time, the shell-shocked survivors will know who created the crisis: the supposedly omnipotent central banks. With their credibility shredded and the failure of their policies visible to all, the central banks' will no longer have the political power to prop up a parasitic financial sector and monetize every debt in sight.

Many commentators take the dazzling "independence" of central banks at face value, but central banks are like any other political institution: their independence is contingent on their success at propping up and enriching the status quo Elites and their armies of well-paid apparatchiks and suppressing rebellion of the lower 90%. Should they fail, their independence will be revealed as illusory as the collateral on their balance sheets.

In other words, what will cause interest rates to rise is central banks' failure to permanently suppress market forces, and the loss of credibility that will result from their failure to do so.

As to the consequences of higher rates: in a debt-dependent economy, they will be about as welcome as a chunk of Kryptonite under Superman's Christmas tree.

New podcast: Charles Hugh Smith on Income Levels & Structural Changes in the US Economy: a conversation with Mike Swanson of Wall Street Window.

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redpill's picture

The Fed will do absolutely anything and everything to prevent a rise in interest rates.  Any rise would necessitate huge amounts of debt monetization to afford the resulting interest payments.  It would intensify the feedback loop of inflation currently contained between the Fed, Treasury, and TBTF banks.  It would become a fiat pressure cooker, and the more the pressure builds, the larger the eventual explosion will be.

SheepDog-One's picture

When you've leveraged everything to the hilt at 25-1 which they've done, probably far higher in reality...all you need is a 4% loss and you're completely wiped out.

They've reached the end of their ability to suspend disbelief, banks are blowing up again and they have no answer for it this time.

McMolotov's picture

They'll have an answer, the same answer as always: print moar. It's not the right answer, and it won't help, but that's beside the point. That's the only answer they know.

The problem is there are too many plates spinning now and not enough hands to catch them when they inevitably start falling one by one. This is the fate of all centrally planned economies.

SafelyGraze's picture


we only give out the funds to trustworthy parties who will not abuse their hot money by spurring price action

for example, our good friends at blackrock are using billions to buy up foreclosed homes at pennies on the dollar.

this wise use of funds helps reduce inflationary headwinds



seek's picture

Exactly. The Fed is the monetization engine, and it depends on ZIRP to do this.

It isn't even a contest between interest rates and inflation. The Fed will let inflation go to the moon before it'll repeat Volker's moves of 30 years ago (which would pretty much blow up the entire financial system today: 15% interest rates on the current outstanding US debt exceeds incoming tax revenue, and that's just interest!)

Given this, I have no doubts hyperinflation is the end game, unless something intervenes (collapse of gov't, warfare on US soil, etc.)

August's picture

"...hyperinflation is the end game, unless something intervenes (collapse of gov't, warfare on US soil, etc.)"

Ooh.. a tingle runs up my leg with "war on US soil".  Montana Militia members get Hellfired in their secret mountain compounds.  Quds Force commandos raid Biloxi.  The mind reels....

But seriously, increasing levels of violence on US soil are a given. Personally, I vote for leaderless resistance.

seek's picture

I didn't necessarily imply civil war or even violence. It could be a multitude of other distractions.

From TPTB perspective, they need something bigger than 911 that permits them to do anything they wish, and ideally, something that takes out a lot of old people (who have lots of assets and/or cost a lot to keep around.) Something biological seems tailor-made for this, but those are just musings of my drug-addled mind. A 1918-level flu epidemic with PRNK claiming responsibility would provide sooo many excuses and scapegoats.

My preference would be a sizable number of state legislatures voting no confidence in the federal gov't during a financial crisis and then grabbing power. If one or two did it, nothing would happen, but if 20+ did, it could get a federal reboot happening. All of this happens in the extreme deep of the endgame, though. I think we need to see inflation/devaluation pushing 5-10% per month before real grassroots reactions start happening.

August's picture

"My preference would be a sizable number of state legislatures voting no confidence in the federal gov't during a financial crisis and then grabbing power. If one or two did it, nothing would happen, but if 20+ did, it could get a federal reboot happening."

Despite my own allusion to "leaderless resistance", ultimately a positive outcome (e.g. dissolution of the US feral governmnet, as currently constituted) can only be achieved via the states.  No loner skulking in the hills and planting IEDs is going to directly produce a postive change; you have to get a significant proportion of the local (i.e. state level) elites to aggressively get behind a push for systemic change. 

My impression is that it took the Quebec Act, and related British laws, to bring the 1775 revolution to a boil, by riling the US landed classes, especially all those famous "farmers" and "surveyors" from Virginia.

EscapingProgress's picture

"No loner skulking in the hills and planting IEDs is going to directly produce a postive change..."

Oh that's just great! You ruined it for me. Now what am I supposed to fantasize about?

hardcleareye's picture

Someone needs to explain this relationship to Abe over in Japan.......  lol 


Tall Tom's picture

You wrote, "The FED will do aboslutely anything and everything toprevent a rise in inetest rates." That actually means, "The FED will do absolutely anything and everything to ensure a Hyperinflationary Inferno and a total destruction of the Currency of the United States."


Most people do not understand the relation between Interest Rates and Inflation. Even Gordon Gecko wrote an article published yesterday on ZeroHedge that demonstrates this. He wrote that the FED does not create the Currency to pay the Interest. But it does...


There is some background needed in order to understand this point. The following is the Background. It is a necessary regression for the uninitiated. 


Businesses fail. So do Homeowners. When they DO NOT PAY THEIR BILLS then the Debt is not retired. The Currency was created when they originated the Bad Loans. But the Currency created by the initiation of those Bad Loans was not destroyed. 


Therefore the inflation currently being experienced in the United States is NOT DUE to any of the QE and Bailouts. We have not even begun to see the Inflation due to QE and may God Forbid that we ever do...(However I believe that He will allow it to have us to experience the Moral Consequence for our imprudence.)


Most of the QE was filtered directly to the Banks to bolster their Balance Sheets. That is the source of the Money being used to prop up the Bond Market as the Bankers made a deal with Bernanke to buy Bonds. But sooner or later the Banks will want to see Real Returns on that Money. At that point they will abandon Bonds and seek Real Positive Returns elsewhere. That QE Capitol has not hit the markets en masse as of yet.


Now I am returning to the line of linear presentation. So to the point...

The current Inflation is directly due to all of the Homes that were foreclosed upon and the Homeowners defaulted on. That event left a lot of excessive Debt, as Currency, floating through the Economy. As the Bills are not paid the Debt is not retired and the corresponding Curruency destroyed,


Increased Interest Rates absorb that excess currency out of the Economy and prevent Inflation by retiring the Excess Currency.


The Currency to pay the Interest is created when Debts go bad as some will invariably do.


When there is a lot of indebtedness and People are failing then Interest Rates need to rise for two reasons.


First they rise as a result of Risk. There is more risk loaning out Money in a Bust than there is in a Boom. People are more likely to fail in Bust Times.


Second, and most importantly, the rise in Interest Rates alleviates the Inflationary Effects of Bad Loans by removing the excessive liquidity out of the Markets.


When Interest Rates are artificially suppressed for any length of time then Inflation roars and the result is a Financial Upheaval. And that is where we are headed folks, courtesy of your Geniuses at the FED.

walküre's picture

Inflation on Russian CDS is being reported

Russia may HAVE TO bail out Cyrus or CDS gets triggered

Tall Tom's picture

Most Bubbles have an inherent beauty. They sell a fantasy of Heaven...UNTIL THEY BREAK.

icanhasbailout's picture

The bottom line with rates is that ZIRP (real NIRP) destroys capital, and without capital formation economic growth cannot occur, and thus any talk of recovery is a fraud.

smartstrike's picture

LOL. Good one.  Capital formation? There hasn't been any capital formation since Ronnie's supply siders took over US.

LawsofPhysics's picture

Bingo, define "capital".  These paper-pushers really believe that the can print energy and pull demand forward, major fail on both counts.  If something is not available, you cannot purchase it, demand is fucking irrelevant.  No energy, nothing occurs, period.  No fresh water available for delivery, nothing fucking grows.  In the latter case, water becomes the capital for christ sake. Fucking arrogant morons.  Don't tell me, "it rains" because when you are dealing with 7+ billion mouths to feed, flux fucking matters and it sure as hell doesn't rain every day.  Desalination you say?  Massive energy input for that douchbags. LOP - out.

daveO's picture

Energy is the FED's achilles heel. End the Petro Dollar and the FED will die. That's why they killed Gadafi and now want to attack Iran. 

Tall Tom's picture

Energy is the FED's Achilles' Heel? No I disagree. The Petrodollar is what allowed the Fed to do what it has done. It was actually that which enabled it. The Fed's Achilles' Heel is Gold or any other barter other than the Dollar for Oil, any threat to US Dollar hedgemony.


Once the US Dollar is replaced then the Demand for Dollars diminishes, the United States loses World Reserve Currency Status, and the people at the Federal Reserve lose their unwarranted and undeserved Power.  Then it is the End Game. And the muppets find out what it is like living as does the rest of the World. (Trust me...They will not like it.)


Not only did they kill Gadaffhi in Libya (who wanted Gold for Oil) and are planning to take out Iran (who wants Gold for Oil) they have also taken out Hussein in Iraq (who wanted Euros for Oil.)

kaiserhoff's picture

Right on cat.

The small business crowd is hunkering down and going under the radar.  I can't remember the last time I heard a drinking buddy propose starting a business that actually employed people.  This way lies madness.

gmak's picture

Prices always move before wages. That is why deflation is the friend of the saver whose primary income comes from a 'working' revenue stream.  That is why inflation is the friend of those who own assets that generate income streams.


Inflation is the friend of the debtor. If one were to expect hyperinflation the best course of action would be to borrow up the yin yang at fixed rates and buy assets with an income stream (sorry gold bugs - one would have to already have the physical before doing this).

gmak's picture

I remain debt free, whicih tells you which side of the coin I am looking at.  I think the bubble will pop before inflation is allowed to be seen by anyone (who controls the data?).

LawsofPhysics's picture

Define revenue stream, it makes a big difference.  Nice to be debt-free, but if you have any significant holding, such as 30,000+ acres of operational arable land you will not escape the tax man unless you and your employees are prepared to fight a revolution to the death.  Managing rentals is good, provided your tenants keep their wages.

LongBallsShortBrains's picture

Tax all central banks in the country at 200% net income.

Can you imagine the politicians when they figure out that the more they borrow, the more they collect in taxes?

Would the central bank raise rates? For what? To pay more in tax?

Fix It Again Timmy's picture

Bernie says: The Bubonic Plague-Yes, Ebola Virus-Yes, Huge Solar Flare speeding towards earth-Yes, but Nooooooooooooooo higher interest rates..........

Mr.Sono's picture

feds tool is to print money and that is the only tool. And the market forces are much grater then the feds. People who partying and saying that the fed has done a great job, are delusional. What they made in years will be lost in days:)

astoriajoe's picture

Chinese Central Banker: Oh, we play joke on you. We no buy your bonds anymore... Hahahahaha

Tall Tom's picture

American Central Banker to Chinese Central Banker: That is okay. Hahahahaha.  Good joke. Funny joke.

Wanna hear another? 

We will  hyperinflate. We got lots of goods and services from you and you are left holding worthless Currency since you are not willing to buy our Bonds and finance our Debt.


Our Trade Deficit with you is forecast at $500 Billion for this year 


Since you are not buying bonds with that you might buy...a loaf of bread or a bowl of rice.


He who laughs last laughs best. Hahahahaha

AynRandFan's picture

Interest rates won't rise, but dang if I can figure out how the Fed intends to counteract inflation if and when we see a real economic recovery.  All I can guess is that the Fed will force banks to "repatriate" their crap collateral, thus soaking up massive amounts of liquidity.  Even so, a lot of the crap collateral consists of U.S. Treasuries, which if you unload the Fed's supply will certainly drive up interest rates.  Quite a conundrum.

ziggy59's picture

We can become Cypress, problem solved..

Tall Tom's picture

You there is no way out?!?


Egads!!! Surely you jest.


Aren't they Geniuses over at the Central Economic Planning Federal Reserve? I mean, don't we have a good Socialist plan going on? Stalin's Five Year Plans were effective, weren't they? So why isn't a Fabian Socialist like Keynes Plans not effective?


Are you trying to tell me that...Oh no...I just cannot belive its just doesn't work?!?


That cannot be. Just who is going to pay for my Food? My housing? My Health Care? My Grave?  Does it mean'll...I'll...I'll...have to get a job?

SheepDog-One's picture

Let's see just a 1% rise in interest rates...the entire Shitcastle would implode.

sansnobel's picture

Capital flight duh!!!!!!!!!!If people finally wake up and realize there is no deposit insurance that can bail everybody out if the market for debt goes zero bid banks will face a run and interest rate premiums will have to rise to get people to leave their money in Banks.  This will raise borrowing costs for the government.  At this point there is only one buyer aka:  The Joobuck printer in Mariner Eccles.  At that point it will just be direct purchases from the Treasury because the PD banks will have gone out of business.  Listen people, you wanna reign in government spending?  Pull all of your money out of the Banks.  That will send a very serious message to the cocksucking politicians of this Godforsaken fucked experiment we once called Amerika.  This would be the ultimate coup de gras to the system.  Just don't be the last bunch of Johnny come lately motherfuckers to show up demanding your money.....

magpie's picture

exactly, when the first corralito fails

gwar5's picture

"Only this time, the shell-shocked survivors will know who created the crisis: the supposedly omnipotent central banks." -- CH-S


I'm sure the Central Banks are well aware of all this, which is why DHS drones and MRAPs are prepared to defend the status quo. There are no massive funds or efforts being expended to protect us from them, that much is perfectly clear.  

Stuck on Zero's picture

Isn't the Fed really just acquiring all the assets in the United States?  It prints miney and buys collateral backed bonds.  That collateral is: houses, land, factories, railroads, utilities, etc.  In the end they will own everything and we will be debt serfs.


SheepDog-One's picture

'In theory' perhaps....however the avg american will not be a very good slave of any kind as their main means of survival now is a govt check....hell they can't even get around China*Mart without an electric cart.

buzzsaw99's picture

An act of God couldn't cause rates to rise imo.

astoriajoe's picture

I heard Jesus Saves.

and he's pissed that interest rates are so low.

buzzsaw99's picture

Damn that Judas and his QE Infinity!

Mr. Hudson's picture


FDR gave the Federal Reserve the authority and the power to confiscate all property in the U.S.; public lands and privately owned real estate. The Fed can do this at anytime it deems necessary when the interest on the national debt can no longer be paid out to bond holders. Right now, the Fed is the biggest holder of American debt, and when this whole thing blows up, Bernanke and his kosher buddies will confiscate everybody’s homes and property at gunpoint. That’s why Senator Feinstein is determined to take away our guns. 


mind_imminst's picture

Mr. Hudson is correct about property.

The central banks have captured the bond market. Bond vigilantes are irrelevant. Rates will not rise.

Asset bubbles and inflation will be controlled through force. I am sure plans are in place. Confiscate gold, "anti-gouging" laws to control prices, prosecute those "evil speculators", etc... History is replete with examples. It will happen again, if the FED has trouble controlling inflation.

daveO's picture

Black Markets, just like USSR.

LawsofPhysics's picture

But I hold the original notes. In addition to outright theft from savings you are trying to tell me they are going to ignore all deeds/titles?  Sorry, I don't see that happening.  Public lands, yes, The Corporation of The United States has title.  It is true however, at that same time, all citizens became "tenants".

WhiteNight123129's picture

All debt crisis end up in collectivism. Since the Government is completly bankrupt, the only way out to shore up its balance sheet is grab private property, blame the evil speculators and confiscate.

The solution is to store your wealth in a country which has little debt. There are a few (Labuan Malaysia), Singapore, Russia.

The risk is theft is very large when the Government is very indebted. The theft is multi form, hyperinflation, and outright nationalization deposit theft all of the above.

The thievery happens when the Ponzi scheme is uncovered, then the promoter of hte ponzi scheme (the government) turns into tyranny as described in the Republic from Plato. What comes after democracy is typically tyranny.