Do ultra-low interest rates really damage growth?

The Economist writes:

On October 26th, an op-ed in the Wall Street Journal by Michael Spence and Kevin Warsh, …that the Fed’s unconventional policies to expand the money supply, known as quantitative easing (QE), have made short-term financial assets like stocks and bonds more appealing as their capital value increases, thereby diverting capital from more productive longer-term investments in the “real economy”. The result has been low investment growth, weak productivity, and stagnant wages.

…Bill Gross wrote in his November Investment Outlook that … the Fed’s expansionary monetary policy has driven down long-term rates, causing the yield curve—the difference in yields on short- and long-term government debt—to flatten. This has squeezed bank profit margins, which has in turn led to lower business investment and economic growth.

The Economist adds:

First, low interest rates have not hurt investment. …when the cost of capital falls, investment rises… As Joseph Gagnon ..points out, it is weak spending and investment that is keeping interest rates low, not the other way round.

Second, the yield curve is not particularly flat at the moment; and if it were, that would not warrant Fed meddling. …Mr Gross is right that narrower spreads are eating into the returns of some investors. But this does not justify raising borrowing costs for everyone else.

Like Mr Gross, the Fed wants long-term rates to rise. It is simply waiting for this to happen naturally, as a consequence of faster economic growth.


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