Federal Reserve Is the FED trapped
Caught in the low interest rate trap
Do you remember the global financial crisis of 2008, which shook the world economy to its foundations? Politicians in most countries reacted to this disaster with a massive monetary policy stimulus. The central banks not only lowered their key interest rates to ultra-low values, but also ventured into new territory with “unconventional measures”: They bought massive amounts of securities or foreign exchange, which they financed with an enormous increase in the money supply. The balance sheet of the European Central Bank (ECB) and the American Federal Reserve (FED) increased enormously. The balance sheet of the Swiss National Bank (SNB) has increased eightfold since 2008. For more than ten years now, the ECB and the SNB have been pursuing a monetary policy as if they were in crisis mode. Switzerland started 2019 for the fifth year with negative interest rates. The FED increased the key interest rate in 2018, but after some turbulence on the financial markets, it ended the rate hike again. Interest rates as low or even negative in a good economic environment as in recent years are paradoxical. Now the business cycle could slowly run out of air and the chance of a normalization of monetary policy seems to have been missed.
The dangers of ultra-expansionary monetary policy are actually obvious. The extremely low interest rates are almost an invitation to get into debt and so private and public debt has risen to an all-time high. The ECB has now bought up 25% of the national debt of the euro countries. Interest rates should actually be hiked to end the debt expansion, but the risk of sovereign defaults and a severe recession is apparently judged to be too great. The central banks are caught in their low interest rate policy. The traces of the risky monetary policy experiment cannot be seen in consumer prices, but they cannot be overlooked in asset prices. Negative interest rates are lowering the risk premiums for stocks and have led to a sharp rise in security prices. With the increasing willingness to take risks, the risk of dangerous corrections on the stock exchanges has increased. The slide in interest rates does not end on mortgages either. Currently, a number of lenders charge less than 1 percent for ten-year fixed-rate mortgages. However, multi-family houses have been the problem child of the real estate market for some time. After all, the prices of residential investment properties have risen enormously in recent years and there is still a lot of construction going on. The best precautionary measure against a real estate bubble would actually be an interest rate hike, but this is currently out of the question for the SNB. Low interest rates are comfortable for borrowers, but what about savers? With inflation of just under 1 percent and a yield on 10-year federal bonds of around minus
0.4 percent results in a real loss of 1.4 percent. This is also extraordinary in the long-term and a novelty in a boom. Negative interest rates act like a tax on savings and therefore make us worry about our retirement assets.
If concerns about the side effects of the expansionary monetary policy are growing ever greater, why is the SNB not increasing its key interest rates? Because she fears that a rise in interest rates could lead to an appreciation of the Swiss franc and bring us deflation and recession. The SNB is therefore attached to the ECB's skirt. Overall, there is little doubt that it was right to use new monetary policy “drugs” after the financial crisis. The fact that the medicine was not discontinued despite the patient's recovery is difficult to understand in view of the increasing side effects. Now the next "disease" threatens and it will be interesting to see which medicine will be prescribed. A stronger dose of the old medication in the form of even lower negative interest rates or a new medication, such as the helicopter money? In any case, with its monetary policy decision, the ECB is likely to have pushed the horizon for a normalization of monetary policy far beyond. Even if the SNB were to raise its key interest rate for the first time in 2020, the zero line should not be exceeded until 2021 at the earliest.
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