patrick.net

This is all very dependent on the Fed monetary policy, and that's difficult to predict.

The Fed says it has this mandate of stable prices and low unemployment, which is total bullshit.

Their real policy is to make sure that banks don't go insolvent due to bad assets, and that the US government doesn't default on its debt. Right now, at $17 trillion in debt and growing, the USG can't afford interest rates to revert to the long time mean, since that would make servicing this debt cost in the vicinity of a trillion a year. So, I think the Fed will continue to print, and the government will have to be the backer of an increasing amount of credit.

However, foreign nations, notably China, still buy lots of our debt. They're not going to take low interest forever, especially if they're losing money in real terms due to low interest rates and monetary creation, so this sets a floor on the rates.

Which force will win? Will the Fed succeed in suppressing the natural rate, as it desperately wants to do, or will it lose control because other buyers of debt lose confidence isn the USD? Very hard to say.

My personal feeling is that we're in for a decoupling of the real interest rate from fed policy, and I expect to see interest rates creeping upward for a while. If the fed cuts QE, they'll go up faster, but they wont cut QE.

myob says

They're not going to take low interest forever, especially if they're losing money in real terms due to low interest rates and monetary creation

China doesn't care about losing money: they print it.
They have one objective which is to maintain employment, and social stability, and they go by that.
Their only limit is inflation.

In the danger zone

The euro area is getting perilously close to deflation

http://www.economist.com/news/finance-and-economics/21593497-euro-area-getting-perilously-close-deflation-danger-zone

My prediction of what artificially low interest rates will do if continued!

Be carefull what you wish for.....

If the rates do not fall to below 3% then the Fed is not doing their job, plain and simple....

I'm waiting for Bubbles Ben to stand on a dais under a giant banner saying, "MISSION ACCOMPLISHED."

Fed member banks are reporting record profits, though some of it results from accounting artifacts.

The economics of banking have changed fundamentally. In Jimmy Stewart's quaint model, commercial banks borrowed short and small (savers' accounts) and loaned big and long (mortgages and business loans). Investment banks participated in the purchase and sale of investments, with valuations based on (for example) the capital asset pricing model. All that has been superceded by influence peddling.

I wouldn't expect mortgage rates to fall below 4%, since those rates were an anomaly: deflation in the housing sector masked inflation elsewhere. With housing stabilized artificially, I would expect inflation, with negative real rates. The Fed may allow nominal rates to rise in order to create the appearance of fighting inflation, but real rates will be negative and the whole enterprise will depend on QE.

curious2 says

Analyzer says

What is the largest factor that influences long term interest rates?

I would say supply and demand for long term credit and securities. Usually, demand for credit depends on economic conditions, e.g. if the economy is growing then newly employed people want to borrow and buy a house. Usually, supply of credit depends on interest rates, because credit securities compete with equity for capital. With QE, however, supply of credit is artificially increased; even the 1% can't buy and hold $1T/year of newly minted credit securities with negative yields, or if they tried, they wouldn't be in the 1% for long.

I like the analogy that I heard about looking at the economy with QE in place is similar to looking thru beer goggles. The line of sight is a bit skewed...

Analyzer says

What is the largest factor that influences long term interest rates?

Outside Feds intervention, interest rates should normally be about equal to the expected nominal growth of the economy.

Analyzer says

What is the largest factor that influences long term interest rates?

1) Short to medium term inflation expectations and especially how those expectations are changing (i.e. expectations about inflation expectations)

2) Risk tolerance and risk perception relative to how much capital is seeking low risk place to park. When there is a flight to quality (these days) that means a flight to money markets, specifically US bonds.

3) Everyones balance sheet (including the governments') relative to how much new debt they can afford to take on. Right now the government and everyone is obsessed with the idea of taking on as little new debt as possible, that is they are over leveraged, and want to deleverage (unwind and pay off debt)

Put differently, we have too much existing debt. So demand for those who want to purchase bonds is high relative to the supply of new debt.

These (#3) are a part of the deflationary pressures out there. The reason that the fed has been able to do huge QE and interest rates can be so low (short term close to 0%), without causing more than very mild inflation, that is without being more stimulative is because there is significant deflationary pressure out there. Deflation wants to happen, but they aren't letting it. (except perhaps in labor markets).

Heraclitusstudent says

Outside Feds intervention, interest rates should normally be about equal to the expected nominal growth of the economy.

Why? Outside the Fed's intervention, the interest rate represents the balance between savings rate and credit demand. This will actually vary quite a bit as economic conditions fluctuate.

Montesquieu predicted what happens when interest rates are low and debt held by other nations (AKA this has happened before):

17. Of Public Debts. Some have imagined that it was for the advantage of a state to be indebted to itself: they thought that this multiplied riches by increasing the circulation.

Those who are of this opinion have, I believe, confounded a circulating paper which represents money, or a circulating paper which is the sign of the profits that a company has or will make by commerce, with a paper which represents a debt. The first two are extremely advantageous to the state: the last can never be so; and all that we can expect from it is that individuals have a good security from the government for their money. But let us see the inconveniences which result from it.

1. If foreigners possess much paper which represents a debt, they annually draw out of the nation a considerable sum for interest.

2. In a nation that is thus perpetually in debt, the exchange must be very low.

3. The taxes raised for the payment of the interest of the debt are an injury to the manufactures, by raising the price of the artificer's labour.

4. It takes the true revenue of the state from those who have activity and industry, to convey it to the indolent; that is, it gives facilities for labour to those who do not work, and clogs with difficulties those who do work.

These are its inconveniences: I know of no advantages. Ten persons have each a yearly income of a thousand crowns, either in land or trade; this raises to the nation, at five per cent, a capital of two hundred thousand crowns. If these ten persons employed one-half of their income, that is, five thousand crowns, in paying the interest of a hundred thousand crowns, which they had borrowed of others, that still would be only to the state as two hundred thousand crowns; that is, in the language of the algebraists, 200,000 crowns -100,000 crowns + 100,000 crowns = 200,000.

People are thrown perhaps into this error by reflecting that the paper which represents the debt of a nation is the sign of riches; for none but a rich state can support such paper without falling into decay. And if it does not fall, it is a proof that the state has other riches besides. They say that it is not an evil, because there are resources against it; and that it is an advantage, since these resources surpass the evil.

18. Of the Payment of Public Debts. It is necessary that there should be a proportion between the state as creditor and the state as debtor. The state may be a creditor to infinity, but it can only be a debtor to a certain degree, and when it surpasses that degree the title of creditor vanishes.

If the credit of the state has never received the least blemish, it may do what has been so happily practised in one of the kingdoms of Europe;32 that is, it may require a great quantity of specie, and offer to reimburse every individual, at least if they will not reduce their interest. When the state borrows, the individuals fix the interest; when it pays, the interest for the future is fixed by the state.

It is not sufficient to reduce the interest: it is necessary to erect a sinking-fund from the advantage of the reduction, in order to pay every year a part of the capital: a proceeding so happy that its success increases every day.

When the credit of the state is not entire, there is a new reason for endeavouring to form a sinking-fund, because this fund being once established will soon procure the public confidence.

1. If the state is a republic, the government of which is in its own nature consistent with its entering into projects of a long duration, the capital of the sinking-fund may be inconsiderable; but it is necessary in a monarchy for the capital to be much greater.

Analyzer says

If the rates do not fall to below 3% then the Fed is not doing their job, plain and simple....

.....kinda funny watching them BEAT a dead horse.....but hey, every dog has their day and yet it's perplexing that they still haven't figured out that Kondratiev has never been wrong.