Building shield

Economic policy is like riding a bike – if you lean too far in one direction, the consequences of your mistake force you to lean the other way. Fiscal policy is the obvious example, with over-spending leading to austerity.

The same principle applies to monetary policy. Interest rates, if set too low, unleash inflationary pressures, forcing finance ministers and/or central bankers to put them up again. Or, at least, that how things used to be. A different logic applies now. Having leaned too far towards the cheap money policies of the last decade, the dominant policy response is to push interest rates even lower.

In a bracing piece for the CapX website, Dan Hannan sums up the sheer weirdness of the situation:

“What, after all, caused the crash six years ago? Mainly the fact that interest rates had been kept too low for too long, creating an artificial boom and encouraging bad investments. Yet, when the crash came, politicians and central bankers the world over demanded more of the medicine that had sickened the patient in the first place, cutting rates to historic lows. Result? The Eurozone is now on the brink of its third recession in six years.”

Hannan detects an inversion of traditional economic values:

“…mystifyingly, almost every politician in the Western world now insists that cheap money should be a key goal of public policy. Low interest rates are seen as inherently virtuous, like low unemployment or low taxes or low borrowing.

“Why? Why have politicians and economists reached a consensus that the best way to run a modern economy is to reward debt and punish thrift? It’s not just that they have public opinion against them – savers almost always outnumber borrowers – it’s that they’re also defying almost every classical philosopher and, for what it’s worth, every major monotheistic religion.”

It’s not difficult to understand the political motives in this matter. Those who run heavily indebted governments have a big incentive to keep interest rates low. The real question, therefore, is not ‘why?’ but ‘how?’ – as in ‘how are they getting away with it?’

This is a tricky issue for right-wingers, because most of them were absolutely convinced that low interest rate policies would be punished by inflation. But, as we’ve noted before on the Deep End, it didn’t happen – and it’s still not happening. The Eurozone, for instance, isn’t just on the brink of recession, it’s also on the brink of deflation. Britain and America have growing economies, but even they are undershooting their inflation targets.

The monetary hawks need a broader and more compelling message. Having cried wolf about inflation they find themselves struggling to explain the wolf’s non-appearance. Talk of rewarding “thrift” is all very well, but of limited appeal to those who don’t have the money to pay the bills, let alone save any of it.

A more promising approach (and a key component of the ConservativeHome manifesto) concerns the link between cheap money and the growing gap between the wealthy and the rest of us.

Artificially low interest rates don’t just “reward debt” they facilitate speculation. For those with access to ‘leverage’ there’s a lot of money to made by pumping credit into the property market and similar investments – especially when the state intervenes to suppress the primary risk factor i.e. upward movements in the cost of money.

These distortions help explain the inflationary no-show. Money may be cheap, but it isn’t chasing real economic inputs like labour and materials. Instead, it’s feeding into property prices and bankers’ bonuses – two highly specialised forms of inflation that masquerade as ‘wealth’.

The free market right could and should be leading the charge against the subversion of the capitalist system. However, that would mean recognising that real threat doesn’t come from would-be revolutionaries like Russell Brand, but from within.

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