The EconomistJuly 13th 2019 Finance & economics 71J
ohn maynard keynesonce fantasised about a world of perma-
nently low interest rates. In the final chapter of “The General
Theory” he imagined an economy in which abundant available
capital causes investors’ bargaining power, and hence rates, to col-
lapse. In such a world markets would reward risk-taking and entre-
preneurial talent, but not the mere accumulation of capital. The
result would be the “euthanasia of the rentier”.
That low rates could feature in a leftish Utopian vision might
come as a surprise today. It is commonly argued that a decade of
monetary-policy stimulus has filled the pockets of the rich. Low
rates and quantitative easing (qe) are said to have sent stock and
bond markets soaring, thereby exacerbating wealth inequality.
They have also boosted house prices, adding to intergenerational
tension. A glance at financial markets suggests more of the same is
coming: long-term rates have tumbled this year in anticipation of
monetary easing, while stockmarkets have boomed.
Central bankers have defended their policies by arguing that,
without loose money, unemployment would have been much
higher, badly hurting the poor. That is true. But the effect of mone-
tary stimulus on financial markets has nonetheless angered left
and right alike. Judy Shelton, one of President Donald Trump’s new
picks for the board of the Federal Reserve, has blamed central
banks for “exacerbating income inequality”. She has called for a re-
turn to the gold standard. The left, meanwhile, prefers fiscal loos-
ening such as giving money to the poor, or fiscal-monetary hybrids
such as the “people’s qe” once advocated by Jeremy Corbyn, the
leader of Britain’s Labour Party, under which the central bank
would finance government investment.
Who is right? Do low rates spell euthanasia or euphoria for
those who live off capital? And should concerns about inequality
determine which policy lever to pull in a downturn?
A starting-point is that falling interest rates make all streams of
future income more valuable. That includes dividends from
stocks, coupons on bonds and homeowners’ privilege of being
able to occupy their houses without paying rent. But the resulting
increases in asset values can be captured easily only by people who
are willing to change their plans. Imagine a homeowner. A higher
house price is of little benefit to him if he has no desire to sell and
move. Similarly, a bondholder about to retire may need the steady
stream of coupon payments the bond provides. A capital gain from
selling bonds today might fund a lavish around-the-world cruise,
but blowing through retirement funds is unlikely to be prudent.
Now consider a penniless millennial. She sees no capital gain
when low rates boost asset prices. But she does have assets that
will yield income in the future: education and skills. Were this hu-
man capital valued on financial markets, it too would rise in value
when interest rates fall. She too could change plans and spend
more today, but by borrowing cheaply rather than selling assets.
A recent paper by Adrien Auclert of Stanford University sets out
a framework for judging who wins and who loses from changes in
monetary policy. Three channels must be considered. One con-
cerns the impact of lower rates on the macroeconomy—the effect
trumpeted by central banks. Another concerns the higher inflation
that lower rates might cause. That hurts creditors and benefits
debtors, who see the real value of their obligations shrink.
The third channel concerns asset prices. It is wrong to claim
that asset-holders generally benefit when rates fall, says Mr Au-
clert. What matters is the full picture of an individual’s assets and
liabilities. The latter he defines to include future consumption
plans (such as whether the homeowner wants to stay in his house,
or whether the retired person seeks to maintain a steady standard
of living). Only by looking at an individual’s balance-sheet in full
can you judge whether he wins or loses from low rates—or wheth-
er, in the jargon, he has “unhedged interest-rate exposure”.
The crucial question is whether someone’s assets and liabil-
ities mature at different points in time. People with short-dated as-
sets but long-dated liabilities—for example a saver with lots of
cash in the bank to fund a purchase ten years hence—do badly
when rates fall. They are the euthanised “rentiers”, who must save
more to fund spending later (a rare example of lower rates depress-
ing consumption). But those who wish to spend today and hold
long-dated assets, such as long-term government bonds, do well.
What does this framework imply for rich and poor? Mr Auclert
presents some evidence that Americans who are older, or whose
incomes are higher, tend to be on the losing end of asset-price ef-
fects when rates fall. But he says it is hard to measure the effect pre-
cisely. A recent working paper by Panagiota Tzamourani of the
Bundesbank finds that within the euro area, average unhedged in-
terest exposure varies a lot between countries, seemingly in line
with the prevalence of floating-rate mortgages. But Ms Tzamou-
rani also finds that younger households and those with low net
wealth benefit from lower rates almost everywhere.Good hedges make good neighbours
That seems to turn conventional wisdom on its head. Far from
helping the well-heeled, the changes to financial markets induced
by low rates could be hurting them, just as Keynes argued. Some
might object that they do not deserve the hit: surely those who save
in cash for future consumption are more responsible than those
who wish to borrow and spend? Keynes would have retorted that in
a world awash with capital, extra saving does not benefit society. In
a slump it is harmful. In any case, if fiscal stimulus is preferred to
low interest rates, taxpayers would end up with debts instead.
Monetary stimulus may not help the poor as much as deficit-
financed welfare or progressive tax cuts. Structural problems in
the economy, such as market power, may allow the rich to earn
high returns even as rates fall. But egalitarians—and those without
wealth—probably need not fear doveish central banks. 7Free exchange Keynes and gains
Should egalitarians fear monetary stimulus?