Interest Rates In Interesting Times

The interaction of cash, credit, asset formation and growth is a complicated and to some extent, an unknowable puzzle.

Bill Gross of Pimco points out some useful interconnections in his September 2014 newsletter.  Its title, For Wonks Only, is a little intimidating but his point makes some sense and should be considered.

  • Total outstanding credit must grow at the rate of interest or more else it will be necessary to liquidate assets to pay the interest.  If that happens then growth will be slower than it could be. 
  • The U.S. and global economy ultimately cannot be safely delevered with artificially low interest rates, unless they lead to higher levels of productive investment.

There is a delicate balance between growth or shrinking in a period of quantitative easing, rising interest rates, and business growth of productive assets.  I think Mr. Gross sees this as new territory with unpredictable outcomes.  He is quite likely right and his track record is hard to ignore.

I can see where he is going with this, but I have questions;

  1. Would it matter as much, if in the beginning, there was too much cash held in reserve by businesses and people?  Would that not cushion the blow from a shortage of new debt?
  2. If debt is used to purchase non-producing assets, like boats and houses, would it really matter that much if some were liquidated?
  3. Does growing borrowed money, for wasteful government spending, really add to our well-being?
  4. Does the old model of how the economy works relate to the new situation where businesses turn their required productive capital more quickly than in the past?
  5. Does his model account for outsourcing as opposed to owning the productive hard assets?  For instance farms take far longer to earn out their capital investment than does an internet based company or even a manufacturer like Apple.

I don’t know the answer to any of these questions, but I do know that people will not borrow for any purpose until they know how to repay.  Part of that payback is interest, but it is presently tiny compared to the principal payments.

While low interest rates may seem to make some business investments attractive, the  underlying mistrust of the lever-pulling politicians makes confidence the number one priority.  Absent near to intermediate term predictability and a trust in the long-term strategic direction of the economy, no sane business person will commit difficult to recover capital. They will have a very limited need for borrowing regardless of the rate.  Mr. Gross talks about the “Animal spirits” of entrepreneurship and business.  In his view they are presently missing. That is expressed by the unwillingness to borrow.

Last October I wrote about the idea of what price people will pay to borrow. What can Knut Wicksell tell us about interest rates?  People will not pay more than the money is worth to them and just now that is less than the principal amount borrowed.

I think there is still a need to understand the human factor in this question.  People are inherently risk averse and interest rates do not contain all risk aspects.

Of all the doubts that pose risks to your investment and debt management plans, uncertainty is very high on the crucial list.  For business people the best incentive is the absence of disincentives.

We live in interesting times.


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Don Shaughnessy is a retired partner in an international public accounting firm and is presently with The Protectors Group, a large personal insurance, employee benefits and investment agency in Peterborough Ontario. Contact:  



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