September 30, 2011

Ben Bernanke and Interest Rates

In early August of this year, Ben Bernanke and the Fed decided that they would artificially keep interest rates at or near zero percent for the next two years. Why would he do that?

The reason he is doing this is because he wants to maintain the rate of inflation. Or in other words, he wants to avoid deflation. I think deflation is exactly what this country needs. We need to get back to a system of savings. We need to under consume at the present so that we can allow for future consumption. We need to stop keeping interest rates at zero percent, and allow the market to establish a real rate of interest. You know what happens when interest rates are set below their natural rate? It encourages malinvestment; say for example, the housing bubble.

I am no expert on the matter but I feel that I have a strong grasp of the situation, and the main culprit is the Fed. Do people realize that the housing bubble was created because the Federal Reserve artificially lowered interest rates after 9/11 in an effort to increase the flow of capital? Well, it did just that, and when money was pushed into the economy, a large percentage of it was being pushed into the real estate market, and these low interest rates increased the demand in housing. Couple this with the fact that Fannie Mae and Freddie Mac were being sponsored by the government, and you have the formation of a bubble. Fannie and Freddie were able to take on risk because of their government sponsorship, and so they started selling their mortgages within a secondary market. Whoever chose to invest in these mortgages then took on all the risk, while Fannie and Freddie soaked up the profit. (And by the way, the people that were forced to take on the risk were the taxpayers)

Because there was no longer a risk for Fannie and Freddie to give out loans, the rates to do so were extremely low, enticing people to have a further increase in demand for buying a home. This caused subprime borrowers to take out loans that they couldn’t afford. People with no income and no assets to speak of were given the ability to buy houses. That’s like being able to buy a brand new Mercedes with a horrible credit rating and a lousy job. It doesn’t make any sense.

Well, then the economy started to turn bad and these subprime borrowers could no longer make their house payments, and no one wanted to buy these homes from those borrowers so they were forced to default. They couldn’t even haggle with their banks because mortgage-backed securities left people going on wild goose chases to find the original lender of the money. It was a total mess and it is all because of government interventionism. If we had a free market, then a subprime borrower would have to pay huge interest rates in order to buy a house, not the 1% interest with no money down. Or they would simply be turned away, which would have been better for the rest of us. There is a reason certain people do not own homes … it is because they cannot afford to do so!

I’ve said all of that so that I can say this; Ben Bernanke keeping interest rates at an artificially low rate will no solve our problems. It is interventionism. It is government regulation of a market that should be free-standing. He is destroying the value of our currency with these “easing” protocols. I think it is ridiculous that after two failed attempts he is going to do it again. The Federal Reserve is a large reason why our economy tanked in the first place, and by printing more and more money, Bernanke and the Fed are killing the value of our currency. How does printing more money and then spending it encourage savings? It doesn’t. And that is exactly what we need to be doing. We need to start living more within our means so that we can promote future consumption. We need to stop keeping interest rates at zero percent. And we need to stop printing money as if there are no consequences of doing so.

Take a look at this article below. It talks about a new plan that the Fed is implementing. The article states that “the central bank will sell $400 billion of its U.S. Treasury securities maturing in the next three years and replace them with longer-term bonds maturing in six to 30 years. The program is meant to drive down long-term interest rates to make borrowing cheaper.” My argument is that we need to stop borrowing money. All this plan will accomplish is increasing the incentive to do just that, borrow.

Does anyone agree with me that the government needs to stop keeping interest rates at an artificially low rate and that saving, not borrowing, needs to be encouraged? The argument appears sound, but then again, maybe I’m watching too many Peter Schiff videos on YouTube.

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