Bill Lear wrote: >>> My brother has advanced the novel idea that borrowing at negative real >>> interest rates is what brought on the inflation of the 1970s.
me: >>Negative expected real interest rates encouraged high demand during >>the 1970s (with rising fixed investment relative to the 1960s) which >>happened despite the stagflation of that period but that says nothing >>about the supply-side reasons for the inflation (oil shocks, low >>profit rates, etc.) Bill: > It seems that "negative expected" must be different than "negative > real". Typically, what drives real spending is the real interest rate that borrowers and spenders expect in the future (the expected real rate approximately equals the nominal rate minus the expected inflation rate) while what can be measured is usually only the real rate after the fact (the _ex post_ real rate approximately equals the nominal rate minus the actual inflation rate). > From what I can see, say by taking Mankiw's Dept. of Treasury > and Dept. of Labor data in his book "Principles of Economics" > (p. 677), real interest rates did not turn negative until well after > inflation hit hard somewhere in 1972. So how could this have caused > the inflation that preceded it? You're right that negative real interest rates cannot have caused any inflation that preceded it; your brother is basically wrong except for the impact of low real interest rates on real spending (see below). In terms of the link between inflation and real rates, causation goes the other way: as the inflation rate rises, real interest rates can become negative if the lenders don't expect inflation (so that inflation catches them by surprise) and/or the negative effects of inflation on creditors cannot be avoided, since low nominal interest rates are fixed in long-term contracts (fixed-rate mortgages, bonds) and/or the supply of money is so abundant that nominal rates cannot rise to reflect existing inflation (which is closely related to expected inflation). My point was that low real interest rates encourage fixed investment spending: because firms borrow money which they expect to pay back in dollars that are worth less in the future in order to buy fixed capital goods (that they don't expect to lose value). Bill: >>> Also, how is a sovereign borrowing money different than it printing >>> money? me: >>it's almost the same if the sovereign's currency is used as the world >>currency (as with the US$) but they're very different for other cases, >>especially that of countries with non-convertible currencies. Bill: > Hmm --- let's stick with U.S. case. If the government issues debt (I > suppose that would be T-bills?) yes, or longer-term Treasury paper (T-notes, T-bonds). But T-bills are more relevant here. > and people purchase it with dollars > then that new debt (T-bills) increases the money supply. purchasing the T-bills with dollars only increases the official money supplies if the Federal Reserve does it (taking the bills out of circulation and putting money into circulation). If I do so, it reduces my money supply (and increases my T-bill supply) but increases some other person's money supply (where that other person might be the US government). I take my money out of circulation, reducing the MS, but the other person puts it back into circulation. > Is that the > idea here? That sovereign debt (U.S. --- T-bills) is effectively > liquid enough to be part of the money supply and thus an increase > in debt could (theoretically) trigger inflation? It's true that T-bills are very liquid, at least for corporations and rich people. They can be used (and are used) as if they were money. So US borrowing (selling of T-bills) increases an _unofficial_ measure of the money supply, which includes T-bills. >>> Also, how is a sovereign borrowing money different than it printing >>> money? Sovereign borrowing involves US government selling of T-bills (etc.) to the rest of the world (China, Japan, etc.) The fact that the US can pay the interest and principal on those bonds using US$ means that it can simply (get the Fed to) print money to live up to these obligations. (The US can buy real resources with the money it prints, getting "something for nothing" (seignorage) -- but if it does it too much, the US$ loses its status as the world money.) Other countries -- those with less-convertible currencies -- have to pay using US$, which they can't print. -- Jim Devine / "Segui il tuo corso, e lascia dir le genti." (Go your own way and let people talk.) -- Karl, paraphrasing Dante. _______________________________________________ pen-l mailing list [email protected] https://lists.csuchico.edu/mailman/listinfo/pen-l
