by Mitch Kokai
Senior Political Analyst, John Locke Foundation
Lower oil prices and the stronger dollar would normally be a lopsided positive for the U.S. economy, as they were in the 1990s. However, under current circumstances the benefits are muted because the U.S. has been producing more oil and the Fed has already forced interest rates and bond yields to very low levels.
Central banks are ratcheting up their existing policies, making matters worse. Extending the zero interest rate policy, one of the Fed’s options, would be harmful because the zero interest rate freezes interbank markets and rechannels credit away from the economy’s growth engines–new businesses. The zero interest rate is a government-imposed price control. The result is a credit rationing process in which credit flows to well connected borrowers at the low price but avoids new and small businesses.
Having the central banks buy more bonds to fight deflation would also be harmful. Bond buying distorts capital flows and distracts governments from the urgency of structural reforms. Since 2009 almost all of the central bank “stimulus” has gone into long-term government bonds, one of the world’s highest-priced and least productive assets. By driving bond prices even higher, the central banks are favoring bond issuers (governments, big corporations and the rich) at the expense of savers and small-business lending. Wall Street and Washington love central bank activism and profit from it, but there’s a tremendous cost to economic growth and median incomes that should be taken into account. …
… These problems will come as a shock after decades of easy gains from compound interest and inflation-puffed tax receipts. For example, many public pension funds still assume a 7.5% annual return, a carryover from decades of high bond yields. With bond returns likely to be a fraction of those in the past, taxpayers and creditors will be on the hook for the shortfall. This makes it all the more important that public pension funds begin to provide clear disclosure of their long-term outlay projections–as Social Security does–not just their wishful return expectations and estimated underfunding.