Banks must tame the easymoney monster
With low savings, high property prices and rising personal debt, it is time to put up interest rates
Later this week, some of the cleverest people in the world will assemble in a very nice place – Jackson Hole, Wyoming – to talk at length about some extremely technical subjects. The content of their discussions would be baffling to anyone other than a trained economist. Yet anything they say can be of huge importance to the livelihoods of billions of people – so much so that financial journalists will be hanging on every word as if they were Ancient Greeks waiting on the Oracle at Delphi.
For these are the central bankers, the likes of Janet Yellen, head of the US Federal Reserve, and Mario Draghi, the president of the European Central Bank. What they say can instantly send stock and bond markets soaring or crashing, and what they do can change the price of everyone’s mortgage and, ultimately, determine the job prospects of vast numbers of people.
Since the crash of 2008, which most of them spectacularly failed to foresee, the world has largely depended on these powerful individuals, along with their colleagues at the Bank of England, the Bank of Japan and so on, to keep the global economy growing despite a much weakened financial system. They have done that by driving interest rates lower for longer than ever before in history – even below zero in some cases – and by using “quantitative easing” to buy up colossal numbers of bonds, thus creating money and pumping it continually into financial markets.
Last October I wrote in this column that these policies, while necessary for a time, had gone on for too long and were starting to cause damage that might be greater than the good they were doing. Continued for eight years after the crash, the central banks were giving short-term relief but building up severe long-term problems.
Many years of ultra-low interest rates discourage saving, and drive savers into riskier assets. They inflate property prices to ridiculous levels, and create stock market booms that benefit the wealthiest most, thus widening inequality and feeding political discontent. They reduce productivity by allowing firms that would normally go bust to stay in business, and encouraging successful firms to use cheap borrowed money to buy back shares, rather than plan new and productive investments. Overall, the entire capitalist system is slowly corroded and undermined.
Most obviously, such a long period of easy money encourages the building up of large debts by people who forget that interest rates can rise, leading to a new bubble and a fresh crash in the future. I argued last year that if central banks produced that outcome, their independence from political control would be under threat.
Some commentators reacted with horror to a former minister like me questioning the future of central bank independence, or wondering about the judgment of these gods of finance. But nearly a year on, the expectation is that any new head of the Fed, to be appointed next year, will be subject to tighter rules imposed by the president or Congress, so the erosion of independence has indeed begun.
More worryingly, the runaway build-up of debt has continued. This is an international problem, notably in the US and China, but very clearly here in the UK, too. British households now have around £200 billion of unsecured debts, around £13,000 per household, surpassing the amount they had borrowed just before the last crisis. Such debts have recently been expanding at 10 per cent a year, or five times faster than the growth in wages.
In Britain and the US, the car market has become the most dramatic example of what is happening. With nine out of 10 cars being sold with cheap finance, Americans have now run up more than a trillion dollars in car loans and the UK faces a comparable situation. The amounts involved are far smaller than the sub-prime mortgages that triggered the crash in 2008, but they are representative of risk building up in millions of households and small firms who are now highly vulnerable to an economic downturn or a change in the direction of interest rates.
So the brilliant brains gathering at Jackson Hole have a dilemma. Between them they have amassed some $15 trillion of bonds and don’t know how to sell them again. They have kept the world addicted to easy money and inflated markets for so long that they don’t know how to stop it. There is hardly ever a good time to raise rates and always a good reason not to. The Fed has indeed started to do so, but more slowly than it had intimated. The Bank of England actually cut rates after last year’s FOLLOW William Hague on Twitter @Williamjhague READ MORE at telegraph.co.uk/ opinion referendum, on the basis of its own forecast that proved incorrect, but has been unwilling to raise them again.
In their own defence, the central bankers would say that they had to take unprecedented measures after the financial crisis; that they have been trying to avoid a renewed downturn at all costs; that elected governments task them with targeting inflation and not with avoiding all the problems of accidentally changing the distribution of wealth and reducing incentives to save; and that commercial banks are now in much better shape to withstand a shock than they were before 2008. Many of them would also say that they are indeed thinking of raising interest rates and unwinding their own inflated balance sheets.
But in that case the message from the rest of us to this distinguished gathering should be: get on with it and show you mean it. Pursue a clear strategy, rather than always finding an excuse for delay. New bubbles are forming and rate increases, albeit small and gradual, are a necessary way of preventing that from becoming unsustainable. Furthermore, the next world recession will happen when you’re not expecting it and possibly for a reason you’ve never thought of. When it does, you will wish you had given yourselves some leeway.
Finally, to you the central bankers, if it’s not your job to worry about the inequality, poor productivity, inadequate saving and misallocation of capital that results from permanent low interest rates, perhaps it ought to be. The side-effects of the drug of easy money have been borne for nearly a decade. If that happens for another decade, the drug might well become fatal. That would be a good subject for discussion round the table at Jackson Hole.