Gold News

Fed Rates: Straight Round the 'U' Bend

Or, a brief history of civilization's end...

FACT ONE: Last Friday, the nation's debt exceeded $20 trillion for the first time in its history, writes Brian Maher, managing editor of Addison Wiggin's Daily Reckoning.

Fact two: Interest rates – the cost of debt – are at their lowest levels in recorded history.

Never has debt scaled such heights...never have interest rates plumbed such depths.

Each fact is remarkable in itself. But taken together?

Today we connect the dots...see how they all tuck together...and tease out the implications.

Richard Sylla professes economics at New York University. He's also co-author of A History of Interest Rates (available through Amazon at a bargain-bin $68 per).

This book canvasses 5,000 years of interest rates...from ancient Babylonia to the glories of Greece and Rome...the Renaissance, the age of empires...all the way through to the 21st century.

Each period is distinct. And the investigator in search of meaningful comparison can easily be thrown off the scent.

Yet despite the false leads and dead ends, Sylla believes he's penetrated the mysteries of interest rate cycles throughout history:

"It seems like there is a U-shaped cycle for each civilization."

After peaking at the top left of the "U", interest rates begin a downward cycle.

And Sylla's research shows that as interest rates fall...civilization rises.

These civilizational heights bring heroic deeds...great achievements...and golden ages.

Sylla claims this pattern was visible with Babylon, Greece, Rome.

In each case, Sylla observes "a progressive decline in interest rates as the nation or culture developed and throve."

Near the turn of the turn of the 20th century, famous Austrian economist Eugen von Böhm Bawerk glimpsed the same phenomenon. Writes Sylla:

"Bawerk declared that the cultural level of a nation is mirrored by its rate of interest: The higher a people's intelligence and moral strength, the lower the rate of interest."

(Caveat: We speak here of market interest rates – before central banking discovered them.)

But eventually the gods grow anxious of man's advancing knowledge...his increasing achievements...his ascent up Olympus.

They know what to do...

The gods begin to fidget...and rates start rising off the bottom of the "U".

The pace of civilization slackens...and the flame of achievement fades.

Debt is the water that douses the flame. Sylla notes that civilizations fatten on cheap debt. And when interest rates begin rising, the burden of that debt also rises.

At this point, each civilization Sylla studied "declined and fell".

The message, as far as it goes: Civilization rises with falling interest rates. Drunk with debt, civilization falls with rising interest rates.

Now come home. The year is 2017. Interest rates have plunged to lows unseen in recorded history, besides a brief spell during the Great Depression:

Question: Are interest rates at the bottom of the "U" – and due for a sharp rise?

Interest rates have begun to rise recently – if barely – and haltingly.

If rates rise meaningfully in the years to come, does it mean civilization is in for a sharp "decline and fall" as happened with civilizations past?

Sylla thinks it possible:

We might say that our current low interest rates indicate that we're at one of the high points of our civilization. Maybe things will get worse from now on.

Recall that civilizations fatten on debt in a falling rate environment...and collapse under that debt as interest rates rise.

Interest rates have plunged since their 1981 peak. And the national debt has exploded:

Last Friday, the national debt exceeded $20 trillion for the first ever.

How will America service that debt if rates begin climbing...and return to historically normal levels?

We hadn't the heart to run the numbers. Financial analyst Daniel Amerman did:

"If the interest rate on that debt were to rise by even 1%, the annual federal deficit rises by $200 billion. A 2% increase in interest rate levels would up the federal deficit by $400 billion, and if rates were 5% higher, the annual federal deficit rises by a full $1 trillion per year."

The chart above reveals that rates 5% higher are rates well within historic norms.

If interest rates do rise to historical levels and their relationship to civilization holds true...

Perhaps we should all light a candle for civilization...

Publisher of Agora Financial, Addison Wiggin is also editorial director of The Daily Reckoning. He is the author, with Bill Bonner, of the international bestsellers Financial Reckoning Day and Empire of Debt, and best-selling author of The Demise of the Dollar.

Addison Wiggin articles

Please Note: All articles published here are to inform your thinking, not lead it. Only you can decide the best place for your money, and any decision you make will put your money at risk. Information or data included here may have already been overtaken by events – and must be verified elsewhere – should you choose to act on it. Please review our Terms & Conditions for accessing Gold News.

Follow Us

Facebook Youtube Twitter LinkedIn



Market Fundamentals