From today’s Personal Income report:
The drag from the declining interest income is worth over 100 bps of personal income growth on an annualized basis in Q3 2010.
(And interest income could get revised down later as well.)
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Looks closer to 200bps by that chart.
yes but on the other hand there is a corresponding increase in capital gains income. Your case that QE, by lowering interest rates, reduces income and is therefore deflationary can only be true if the propensity to consume out of interest income is substantially higher than the propensity to consume out of capital gains. In addition, coupon payments on bonds are fixed — so if I am still holding on to a 30 year bond bought back in 2004 or whenever, I still receive my 6% coupon payment regardless of the fact that newly-issued bonds yield much less. And finally, all of this ignores the fact that low interest rates, cet par, tend to encourage investment which is the source of new savings in the first place.
And finally, all of this ignores the fact that low interest rates, cet par, tend to encourage investment which is the source of new savings in the first place.
But too low rates, especially held for too long, result in increased malinvestment (economic inefficiency). Or is that covered by cet par?
for every dollar borrowed there is a dollar saved
and the tsy is a net payer of interest.
and rate cuts did reduce saver’s incomes and flow to banks via expanded net interest margins.
taken together looks to me the income channels worked to reduce aggregate demand some.
and while investment is cheaper, ultimately it is demand that drives most private investment?
I see your point here but if rates are higher then bond prices are lower. So if the treas is paying out less interest to bondholders then those same bondholders have bonds which are worth more than they were before. One thing must cancel out the other. So the question then becomes is there really a radically different propensity to consume out of interest income as opposed to capital gains? I really don’t think so.
If I remember correctly, the largest holder of US debt is the US government itself. It owns around half of the existing stock of debt. So clearly QE has no deflationary impact there. About half of the remaining 50% is owned by foreign governments. Most of these governments are collecting USD to keep their own currencies cheap, so no matter what yields are their USD spending desires will not change. Of the remaining 25% the largest share is state and local governments who, for the most part, hold bonds in pension funds. And since these pensions are defined benefit, there is no way a shift in the composition of returns from interest income to capital gains
will change the rate of outflows from the funds. So, in order for this deflationary argument to work, there have to be some gigantic differences in the propensity to consume out of interest vs capital gains for the remaining 10-15 percent of bondholders.
QE might have been ineffective, but when you argue that QE, by depressing yields, is deflationary, you imply that higher yields are inflationary. This is very counter-intuitive and I have a hard time buying it.
Cutting the discount rate to zero certainly steepened the yield curve, but the alternative to that — keeping the discount rate high — would have been the failure of the banking system. In addition, QE bought treasuries so it served to flatten the yield curve. All else equal, bank earnings are lower now relative to a non-QE scenario.
The near failure of the banking system was due to the Fed’s failure to understand its role as liquidity provider- the liability side of banking is not the place for market discipline, etc. etc.
I do prefer 0 rates but recognize that taxes can then probably be a lot lower than otherwise.
also, just think of the macro income flows as you started to do. If you have a 6% bond and can sell it for a capital gain it’s only because you can only get less than 6% reinvesting the proceeds. So you are sort of net flat.