Select Page

Historically low-interest rates have prevailed since the financial crash of 2008. This leads to the questions of whether or not such low-interest rates are a net positive. In particular, how do extremely low-interest rates affect those who are just trying to save?

The benefit of low-interest rates is that they allow people to borrow much more freely. A typical 30-year mortgage that goes from eight percent to five percent interest may result in hundreds of thousands of dollars in savings to the borrower. And because the monthly payments will be reduced, in many cases by far more than a naïve look at the interest rate alone might suggest, that means that far more borrowers will qualify for mortgages. This, in turn, makes borrowing far easier, spurring demand for houses and driving the price of homes up.

Similar dynamics work in other markets, such as equities. But these things have a number of serious downsides, particularly for savers.

Keeping Up with Inflation

The desirability of savings is heavily dependent on how well money that is saved can keep up with inflation. In other words, savings is attractive only when money saved retains its purchasing power. Unfortunately, the official inflation rate often doesn’t capture the full story. As most people who have been good savers over the last five years will attest, actual living costs have far exceeded any interest that they have been able to earn on savings.

Ultimately, this is a very bad thing. For starters, it takes away the incentive people have to save. If rent is increasing 20 percent each year, there is little point in saving money. That real-world inflation acts as a 20 percent tax for everyone who saves. Those savers would do far better to put that money, instead, into rental properties of their own, thereby being on the winning side of that 20 percent per year increase.

But the real problem with negative real-world interest rates — savings losing value, with interest, faster than inflation — is that it forces people to go chasing yields in order to merely preserve the value of their money. This causes widespread speculation and an influx of passive money into equities, real estate and bonds, a problem that an increasing number of investment experts are sounding warnings about.