What if low interest rates are slowing a larger recovery?

by JT McGee

Quick thought today.

I watched an old (2012) interview with David Einhorn on CNBC. The interview starts with poker and not-for-profits, but quickly delves into such topics as monetary policy, quantitative easing, and Apple’s valuation. I mean, if you’ve got Einhorn in the studio why wouldn’t you talk about the big stuff?

You can find the interview here.

In 13 minutes and change, Einhorn hits on complex topics, some of which I agree with entirely. Some of it I can’t dig, like buying Apple or gold.

At any rate, his comments on low or zero interest rate policy are of particular interest, especially since the markets are on a tear, the deficit is set to plummet, and corporate profits are still halfway decent despite the fact revenue growth is slowing.

Einhorn: low rates hurt economic growth

Einhorn’s comments revolved around the idea that low rates actually hurt the economy more than they help. He says that low rates make it impossible to forecast future income, ultimately delaying retirement and consumption. His fix? Send rates to at least 2-3%, instead of the 0-.25% the Fed is targeting today.

Such a policy would make financing far more expensive than it is right now. Home loans would jump by at least 200-300 basis points. Probably more, actually, since the implication would be that the Fed will only go higher, not lower. Dividend paying stocks would probably take a breather, since Coca-Cola’s terrible 2.8% yield would look much less attractive to so-called “dividend growth investors” if risk-free rates were >2-3%. (Fun fact: Philip Morris, now Altria, yielded more than 19% in 1988.) And companies probably wouldn’t be so hungry to buy up their own shares given the cost of capital would rise tremendously, even for AAA credits.

However, the alternative is that investors would actually get something worthwhile on their invested capital. CDs would start at 2-3%, and go as high as 4% or more for longer maturities. Savings accounts would lift off .0000005%. Money markets would do the same. People who are currently in their 60s – baby boomers – might actually think about retiring, freeing up a job for an unemployed 20-something, of which there are many.

Is it time to listen to Einhorn?

The video ends with discussion on how Bernanke won’t listen to Einhorn (why would he?) and it’s clear higher rates probably aren’t sitting right around the corner. But with equities up, employment up, housing up, food and fuel up, maybe it’s time for a little easing on quantitative easing.

It may not be the end-all solution, but we should always be willing to consider that maybe, just maybe, central planning creates much bigger unintended consequences.

{ 1 comment… read it below or add one }

Value Indexer May 22, 2013 at 02:25

As usual, there are a lot of forces involved and no clear answer. I’m not sure if dropping rates from 3% to 0% has the same effect as going from 7% to 3% (in the context of sensible long-term policy) so the loss may be more than the benefit. On the other hand, one reason you would want higher interest rates is to attract more capital and investment. Right now the marketplace looks like it has too much capital chasing investment returns. If that’s the case it might be hard to effectively raise interest rates.


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