Causes and consequences of low interest rates
Jean-Pierre Danthine, Vice-Chairman of the Governing Board of the Swiss National Bank
Swisscanto Market Outlook 2014, Lausanne, 14.11.2013
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Long-term and short-term interest rates of advanced economies have been at historically low levels for several years. These low levels can be attributed to a secular downward trend that started in the 1980s and an additional cyclical downturn in the wake of the financial crisis. The secular downward trend can be explained by lower inflation premia and a decline in real interest rates. The cyclical downward shift is, first and foremost, a natural consequence of the negative impact of the financial crisis on growth and the subdued recovery of the world economy since. Furthermore, the correspondingly accommodative monetary policy reaction to this crisis plays an important role. In the case of Switzerland, additional cyclical downward pressure on interest rates results from increased demand for safe assets. In short, interest rates reflect the prevailing economic and financial circumstances and the appropriate reaction of monetary policy to these circumstances.
An extended period of low interest rates, even when fully justified by economic circumstances, is not without risk, however. In particular, it is a potential breeding ground for financial instability. Low interest rates may drive up asset prices, and induce a credit boom and excessive risk-taking in financial markets. Moreover, market participants may place too much reliance on central banks as a backstop in case of negative shocks. The answer is to give more weight to macroprudential instruments implemented alongside a monetary policy that remains firmly focused on price stability.
Looking forward, at least at a qualitative level, the outlook for interest rates is relatively clear. The crisis-induced cyclical downturn will eventually be reversed. At some point, the global economy will return to a more robust growth path. Interest rates and monetary policy will accompany this change in circumstances. We are clearly not there yet, however. The global economy is still fragile and the level of uncertainty remains elevated. Markets understandably expect policy rates to remain low for several quarters in the future.