E4 – Money and Interest Rates

Jun 30th 2012, The Economist, Keeping it real, The side-effects of low interest rates
Abstract (Summary)
Interest rates are negative in real (ie, after inflation) terms and are expected to remain so. This is not unprecedented. Real rates were negative after the second world war and again in the 1970s. But in both cases inflation was much higher than it is today. Headline inflation rates are now falling, thanks to lower commodity prices. But with the exceptions of Greece and Switzerland, economists are not expecting outright deflation this year. When an economy is growing rapidly, there should be an abundance of profitable investment opportunities. Businesses are happy to borrow at high real rates, confident that they can still earn an even higher return. In a sense, then, the level of real interest rates sets a hurdle by which profitable projects should be judged.
There will be something wrong if, in five years’ time, real interest rates are still negative. Capitalism depends on giving a positive return to suppliers of capital. That said, it would be a mistake to argue that central banks should attempt to raise interest rates soon. The European Central Bank’s decision to tighten monetary policy last year looks an even bigger error in retrospect than it did at the time. Savers will have to keep suffering.
Full text: http://www.economist.com/node/21557758
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