A new approach to the low rate trap

Why are rates still stuck near the lower boundary?

The usual explanation is that globalization, automation and demographics are the culprits. That’s compelling, but the BRI has a document that offers a new alternative, or at least a contributing factor.

I’ll let CIBC describe what it’s saying:

“The broader point of the paper is that financial markets are getting used to low interest rates and economic actors are taking leverage or increasing asset valuations in a way that drives financial booms in a low rate environment and fuels financial meltdowns when rates rise. This, in turn, prevents rates from reaching levels seen in previous cycles and forces them to fall again when financial market difficulties ripple through. the real economy.”

Seeing the markets crash this year as rates climb rings true.

So the next question is to guess which bubble will burst this time. Candidates abound.

What worries me is that we’ve created a bubble within a bubble — a mega-bubble. What is it in? Obligations.

Also like this item from CIBC.

“Central bankers fear that if they made a move of 75 or 100 basis points, … the market would see this as a signal that the final destination is a rate of 4% or even more. The resulting rise in long rates could prove to be an excessive economic drag.”

So even if they think higher rates will eventually be needed, they are hesitant to report it because they want to preserve some option. This thought is very much in line with what Kashkari wrote today.

Irene B. Bowles