The dangers of living in a subnormal interest rate world

23-Jun (Financial Times) — It is curious to reflect that when US and UK policy interest rates were cut to their lowest ever levels in March 2009, markets expected them to be on the rise within the year. More than six years later the rates remain the same and the markets are still obsessed with the timing of a rise. When that will happen is as clear as mud in the wake of the Federal Open Market Committee’s statement last week.

The one thing that is beyond doubt is that the “normalisation” of monetary policy is a long way off. Janet Yellen, chairwoman of the Federal Reserve, has indicated that when the rises do come they will be small, incremental and predictable. For some years we will confront a subnormal interest rate world.

It will also be a low growth world — witness the downward revisions to growth projections of both the Federal Reserve and the Bank of England this month. The eurozone and Japan, despite enjoying the benefits of big competitive devaluations, are struggling to deliver half-decent growth rates.

And competitive devaluation is anyway a zero sum game that does nothing to boost the global economy. . .

…In such a world any reversion to the historic interest rate mean is distant. There is no generalised sword of Damocles hanging over the heavily indebted developed world for the moment. Yet for individual countries an early reversion may be the reward for bad policy. Japan and southern Europe are the laboratories in which this hypothesis will be tested.

[source]