Double-Digit Interest Rates Just Don’t Make Sense

The $ 64 trillion question right now is “inflation versus deflation.” Which one of them are we going to get? There are logical arguments on both sides of the divide.

Those who expect inflation point to the trillions of dollars pumped into the system. (And in fact the European Central Bank upped the ante even further this week, with a record $ 620-odd billion worth of liquidity flooded into euro-zone money markets.) It’s said that this ocean of cash will have to be mopped up at some point, and the central banks won’t be able to do it fast enough.

In contrast, those who see deflation point to a collapse in credit and sharp downward lurch in wages. They argue that the vicious contraction in global output – the economic equivalent of a massive heart attack – has taken the all-important “money multiplier” effect and thrown it into reverse gear. When deflationists survey the pocked and cratered landscape, they see an aftermath of destruction far more epic than the few trillions being tossed into the gaping hole.

In the long run, your humble editor plants his feet squarely in the inflation camp. It seems clear we will reach the inflation destination by one of two roads. Either the global economy comes roaring back with a vengeance, or the crushing weight of debt (perhaps further weighted by a second banking crisis) spurs mass-monetization of government debt – the “printing of dollars with which to buy bonds,” a phrase which by now may be tattooed on some of your brains.

A Perplexing Idea

The inflation camp endorsement comes with a small caveat and a large disagreement.

The small caveat has to do with timing. It just isn’t clear when rip-roaring inflation will come. We are already seeing upward price pressure in food and gasoline, for example, but that is matched by distinct downward pressure in wages (as the deflationists point out).

For inflation to really be considered “rip-roaring” (to pick a phrase), it should be eliciting angry headlines in the local paper, rather than just angry grumbles from cranky finance types. We aren’t there yet. When will we get there? Very hard to say. Two months, six months, 16 months… all we can do is wait and see.

The large disagreement has to do with a strange idea being passed around. Perhaps you are familiar with this idea and can help me puzzle it out.

The gist of it goes like this. When rip-roaring inflation comes back, some folks say, it will usher in a new era of sky-high interest rates.

As a result of rampant inflation, long-term interest rates could rise to the double-digit level of the early 1980s, these folks say… and maybe even higher. Therefore, the big play is to short the heck out of Treasury bonds (which fall as interest rates rise), which can be done by purchasing an inverse bond ETF like TBT.

I have heard (or read) this double-digit interest rate argument multiple times now. In one or two cases it has come from very smart people.

That’s why I’m confused (and maybe you can help). The prospect of double-digit interest rates just makes no sense to me. That, in turn, makes it hard for me to get excited about shorting bonds.

An Economy Killer

The trouble, as I see it, is that sufficiently high interest rates, let alone double-digit ones, are an economy killer.

Over the past decade, long rates have not gone much higher than 6.5%. And that was only for a very brief window of time as the year 1999 passed into the year 2000, before the dot-com bubble had well and truly burst.

Since then, long rates have trickled down and down, even as consumer leverage (via mortgages and home equity loans and credit cards) went up and up. Now, as we know all too well, the U.S. economy (and the U.S. consumer in particular) is saddled with a groaning amount of debt. Every uptick in rates makes that debt burden heavier. When long-term interest rates rise, mortgages get more expensive. Hopeless financial situations become even more hopeless. Credit card delinquencies – which just hit a new record level by the way – become even more delinquent.

The point is, an economy burdened with debt is like a thin, frail man with a 250-pound Saint Bernard sitting on his chest. Sending interest rates higher is like weighing down the Saint Bernard with saddlebags full of cement. It becomes all too easy to crush the poor man’s lungs and rib cage entirely.

Good Old Von Mises

That leads to something else that puzzles me. We in the publishing world – or at least the Agora family’s rather large corner of that world – fancy ourselves students of Austrian economics. (On thinking hard to come up with a fellow editor who calls himself Keynesian, I’m drawing a total blank.)

In regards to the Austrian school, I hate to once again play on an old tune I’ve been whistling since 2005. But it seems appropriate to (gulp) once again share the words of Ludwig Von Mises here:

There is no means of avoiding the final collapse of a boom expansion brought about by credit expansion. The alternative is only whether the crisis should come sooner as the result of a voluntary abandonment of further credit expansion, or later as a final and total catastrophe of the currency system involved.

The “Von Mises prophecy” – my term for the above paragraph, as these words essentially predict the grand thing that is unfolding before us now – essentially offers a forced choice.

When a government has taken the easy-money boom into dangerous territory, they can either swear off the juice while there is still time to repent… or they can wait until it’s too late, at which point a “final and total catastrophe of the currency system” is the end result.

What does this have to do with double-digit interest rates, you ask? Well, if Von Mises were here, I think he would point out that it is already too late for double-digit interest rates. They are too much of an economy killer now.

We might have been able to stand them, say, six or seven years ago, had Alan Greenspan embraced a program of painful austerity rather than doubled down in the creation of a new housing bubble.

But as it stands now, we are too far down the path. We have passed through Von Mises’ “sooner” and wound up at the point of “later,” in which the only long-run option becomes monetizing the debt.

Monetizing the debt is the means by which the “final and total catastrophe” comes about… and ironically, it comes as a desperate, last-ditch attempt on the part of the central bank to avoid double-digit interest rates. The progression goes something like this:

* The debt burden becomes too great, and Treasury bonds go into freefall of their own accord.

* This freefall threatens to send interest rates skyward – to 5%, 6%, beyond.

* The Federal Reserve, recognizing that high interest rates are an economy killer at this stage, finds that its panoply of options has been reduced to one. To head off the onslaught of high interest rates, it must buy bonds in great quantity. And it must buy those bonds in great quantity with printed dollars.

* This forced exchange – the exchange of bonds for printed dollars – is the process by which double-digit interest rates are avoided… and also the process by which the Von Mises prophecy comes true, as the integrity of the currency in question becomes thoroughly, utterly and definitively destroyed.

This all seems pretty clear to me. Von Mises laid out the final trade-off, and we only need look around to see how weak and fragile the global economy is (let alone that of the United States).

One Other Way, But…

There is one other, improbable but feasible route by which we could wind up with double-digit rates. If the global economy (and the U.S. economy) comes roaring back so hard, and so fast, that all of a sudden the world were strong enough to handle double-digit rates again, then the central bankers could sit back and let rates soar.

But a scenario like that would be one in which the price of oil is on its way back to $ 200, the price of base metals and grains are on their way to tripling, and emerging market equities are on their way into the stratosphere. In such a raging bull world, would one really give a fig about shorting bonds? I hardly think that was the scenario that the double-digit meisters had in mind…

What do you think? Am I missing something in being not too excited about the short bond trade, or does the logic add up? Let me know: justice@taipandaily.com. (And by the way, we’ll get back round two of the mafia tales next week.)

Justice Litle is Editorial Director for Taipan Publishing Group. He is also a regular contributor to Taipan Daily, a free investing and trading e-letter, editor of Taipan’s Safe Haven Investor and Justice Litle’s Macro Trader.

Rates Of Interest In Britain

Interest rates have actually a direct impact on everybody’s finances, whether it is their particular home loan repayments, credit cards or savings account. Interest rates struck 40-year lows in Canada together with US early in 2004. Interest levels depend on the debtor’s underlying financial loans’ main prices and do not integrate discounts for interest decrease advantages. Organizations are involved that rising interest levels continues to raise the strength of this pound contrary to the United States buck, hence making life harder for exporters. Some two million Us citizens whom took completely flexible price mortgages might find their attention rates reset to a greater rate this season, and lots of cannot afford to spend the bigger bills. Reduced rates of interest may possibly also bolster customers, since bank cards are often pegged to temporary rates. Usually, for each and every forecast of increasing rates of interest discover a forecast of lowering rates. The modified rates of interest on build up could be appropriate only to fresh build up and on revival of maturing build up. You notice, long-term interest levels like rates on fixed-rate mortgages tend to be based more on expectations into the future than about what occurs now. UK banking institutions provide many different financial solutions and accounts. It’s understandable so it costs more to borrow cash when rates of interest enhance. All other short term interest levels, including house equity loans prices, are tied to it.

Home loan prices

several in four home loan programs tend to be turned down. On the other hand, if you have reduced your home loan and now have a whack of cash lying around, higher rates imply the bank will probably pay you even more to let finances sit using them in cost savings records or GICs. Beyond that, these mortgages being packed and offered as securities all over the world, spreading the difficulties in housing to numerous credit markets. But home loan rates, which have been dropping, are more widely associated with lasting rates of interest. You are inclined to blame-or commend-your mortgage company for the low or high rate she gives you; however in actuality, it’s not her choice. Where mortgages or secured personal loans tend to be explained do remember your house has reached threat unless you keep pace repayments on home financing or any other loan guaranteed on it.

Charge cards

Interest rates have a primary impact on everybody’s finances, whether it is their home loan repayments, credit card debt or checking account. Variable mortgage rates also floating price loans like lines of credit progress and down in lock step utilizing the prime financing rate. Beyond that, these mortgages being packaged and offered as securities around the world, dispersing the issues in housing to numerous credit markets. Lower interest levels may also bolster customers, since charge cards are often pegged to short term rates. The rates and costs relevant to your loan may vary from the numbers, with regards to the school you attend and credit history. Who have believed that the bank most hurt by the recession would turnout become the Bank of The united kingdomt.

Fred Inance writes about Interest Prices in the united kingdom.

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Do Interest Rates Drive The Foreign Currency Markets?

Rates of interest defined: interest levels are LIBOR-based for currencies of disbursement plus a spread that is determined by the complexity of this deal additionally the risk profile of applicant.

The Forex, or foreign exchange change, is focused on cash. Money from all around the globe is paid for, sold and exchanged. On Forex, everyone can buy and sell money along with possibly turn out forward in the long run. Whenever coping with the foreign currency change, it is possible to choose the money of just one country, offer it and also make a revenue. For example, a brokerage might buy a Japanese yen whenever yen to dollar ratio increases, then sell the yens and buy straight back US bucks for a revenue.

The forex market, sometimes known as the foreign exchange, is just one that is affected by unique. The market itself is getting perhaps one of the most well-known types of trading today. It once was reserved for richest of this rich, but these days with reduced minimums; this might be an industry that draws people from all monetary levels. The appealing thing about forex trading is actually its influence also it liquidity. Many people with a grand history in Forex system takes almost no cash and change it into lots making use of the forex. But when you’ve got expertise into the foreign exchange market, you have to be aware of items that influence it. Knowing these specific things is part of making rational and logical decisions of trading.

Interest levels are something which drives this currency exchange market. While money costs are what industry is all about, interest levels have actually an immediate impact on those rates. Therefore, to understand the present foreign exchange market, one must comprehend the current problems of each and every specific interest rate. While financial and political circumstances are also on the list of items that considerably impact the Forex, there is nothing that affects it significantly more than rates of interest. Something to remember usually cash often uses interest levels. Whenever interest rates raise, people will want to capitalize large comes back and you will see cash streaming to the nation. Whenever one nation’s interest levels rise, their money is seen to be stronger than various other currencies. This occurs because people look for a lot more of that money to benefit much more. Otherwise, it really is regarded as a good thing when interest rates increase and a negative thing when they fall.

Federal government participation within the Forex is not an uncommon action. Occasionally governments will flood market using their very own domestic money. This action may seem silly to someone who understands absolutely nothing about the foreign exchange market, but to people who know it well, it generates perfect sense. Whenever governments flood the Forex with regards to very own domestic money, these are typically trying to decrease the purchase price. If they purchase their particular domestic money, they truly are wanting to enhance the cost. A person might understand this plan as Central Bank intervention. Governing bodies do this to help their general economic climate. This is certainly a type of action that keeps market powerful and regular. When you’ve got excessively huge people making appearances to keep every little thing as fair as you possibly can, you create an attractive marketplace.

While rates of interest can drive industry for a short while, the nature of forex market causes it to be problematic for all of them to-drive it for a long period of time. The design associated with the market, with it becoming huge in proportions and amount, restricts interest levels from having full control over the system. Many times but professionals make an effort to find out whenever interest rates will increase or fall. The most common thing they are doing to keep with prices is to focus on financial inflation indicators. Occasionally investors and specialists may also tune in to speeches from political leaders alongside influential individuals. They could choose aside clues to make a guess ahead of the announcements are formulated. Quite often, there was somewhat advance notice before interest levels move.

As you care able to see, the influences of interest prices on forex tend to be powerful. They can assist determine which nations’ currencies would be the strongest. This naturally is in accordance with other currencies available in the market at that time. Once you think about the increase and fall interesting rates, it is possible to remember that whenever interest rates fall, its typically a very important thing for investors and domestic money. When rates fall, it is really not such a fantastic thing. Whenever rates remain reduced for an extended period of the time, the market may seem just a little dull, however the neat thing concerning the forex is when federal government gets involved, which it typically does at these down times, there is certainly a cure for improvement. So, if you are beginning to learn about this currency exchange market, don’t forget to focus on the rise and autumn interesting rates near you in order to make the best financial investment choices feasible.

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The Fed Prepares for UNFAVORABLE Interest Levels

In today’s video clip, Christopher Greene of AMTV reports on Federal Reserve unfavorable interest rates and interviews visitor Marco Santarelli.
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