The stock market has been a mess over the last couple of months. I guess after almost a decade of solid growth, it was time. Of course, our President has a different thought. He blames high interest rates. The President has been pushing the Federal Reserve to lower interest rates. They haven’t been listening. Currently the Fed rate stands at 2.25%. So, are interest rates too high?
Comparing Interest Rates To Recent History
In a quick answer, no. Interest rates are not that high at all. Of course, this takes some comparison.
Since the start of the 1990’s, interest rates have been higher than they are now more often than not.
The entire decade of the 1990’s saw interest rates in the 4-6% range. I remember that, at the time, this was considered pretty low. The 1970’s and 1980’s had very high rates. So a drop to 4-6% was actually a relief for many!
In the early 2000’s, interest rates did drop for about 4 years to levels lower than today. The 1-2% range followed a pretty bad post-Y2K recession, as well as 9/11. Lower rates were used to provide a boost to a dragging economy.
Following 2004, the economy ‘recovered’ and interest rates were back up around 5% for the next few years. In 2008, the bottom fell out of the economy, and they were quickly lowered, all the way down to practically zero. Come to find out, the economy wasn’t as stable as had been purported.
Interest rates stayed at those non-existent levels for seven whole years! It wasn’t until 2015 that any increases were seen, and even those were small. It wasn’t until 2017 that more than one increase per year took place.
That’s nearly ten years of extremely low interest rates.
Perspective On Interest Rates
The president is arguing that the rate increases are hurting the economy. He has asked for them to be lowered.
The Fed has all but ignored him.
From a historical standpoint, interest rates really don’t look too high at all. But, we also had the lowest interest rates ever for a very long period of time. Bottom line, we got complacent.
Right now, a 15 year mortgage is around 4.5%. This probably is considered high for many who financed at or even below 3%. Again, looking at how long interest rates were low, a great many people got these rates.
However, they were never meant to be a ‘forever’ thing. But, nearly ten years of practically no interest did start to feel like forever. It became the new normal.
Why We Need Higher Interest Rates
I studied Economics in my undergraduate. So, while I’m no expert, I do remember enough to understand that we do need higher interest rates. We can’t keep them the levels they were at forever.
Eventually, the economy will go into a recession. The economic cycle makes this a certainty. Recessions are good for the economy. We just don’t want them to the scale of the last one! But, a common tool to minimize the effect of recessions has been to lower interest rates. This encourages companies to borrow and spend money. This leads to jobs. If it all works out, eventually the recession ends.
But in order to do that, we must first raise them. These rate increases are done when the economy is doing well. Like it is now. The idea of this is that a strong economy can withstand the increases.
This system has worked well for quite some time. But, it’s predicated on having the cushion in interest rates to be able to lower them.
Why We Can’t Keep Interest Rates Low Forever
Think of what would happen if we had 0.25% interest rates and slipped into a recession. What could we do? Well, one thing we wouldn’t be able to do is lower interest rates. This would end up making it harder to pull out of the recession. The recession would likely last much longer than normal. Plus, other less effective measures would have to be taken. Tax cuts or additional spending would help, but would spur higher deficits and more inflation in comparison to interest rate cuts.
Personally, I thought that the Fed waited too long to start raising rates. I thought they should have started around 2013 or so. By that point, the real estate market had stabilized. Unemployment was near pre-recession levels. I knew full well that the longer the Fed waited, the more ‘normal’ the ultra-low rates would seem. And, that’s the thing. They weren’t normal.
The bottom line is that interest rate cuts are a needed tool to fight recessions. Building that cushion during times of growth will help us down the line when we need an economic boost.
Do you think rates are too high?
Readers, let me know what you think. Have we gotten too used to low rates that we now expect them? Do you think the Fed should lower rates or keep on the current path? Let me know in the comments below.Copyright 2017 Original content authorized only to appear on Money Beagle. Please subscribe via RSS, follow me on Twitter, Facebook, or receive e-mail updates. Thank you for reading.