With expectations of the Bank of England raising interest rates growing with each passing month, Omar Ghulam warns that such a course of action may have other consequences.
The central banking bible holds that thou shalt raise rates when the economy overheats, or lower rates when the economy cools ‘other things being equal’.
What if things are not, and have not been ‘equal’ for an uncomfortable while? What if the preamble no longer applies? For two years Mark Carney and Janet Yellen have intimated that the near-zero interest rate environment that has settled over the Anglo-Saxon world is drawing to a close. The UK and US economies are beginning to recover and one must, under the ceremony of rituals, yield to orthodoxy and raise rates. However, little attention is paid on the fundamentals of economic theory; such as private and public indebtedness, wage-increases or productivity growth. It is in the finer grains of detail that economic reality manifests.
Looking at the average wage-increases, or improvements in the average worker’s productivity, the Anglo-Saxon story of crisis to redemption begins to shed leaves like autumn. It is all well to speak of raising rates, but it’s quite another to do that with the backdrop of what seems like a bubble economy. Let us begin with the Anglo-Saxon love affair with homeownership, or what Thatcher called a ‘home-owning democracy’. Both in the UK and across the pond, concerted efforts have been made to get first-time buyers onto the property ladder by stoking idyllic imagery of a ‘house on the prairie’ behind rolling swaths of green land. Reality, however, can’t help but rear its ugly and unwelcomed head. If people aren’t earning more, or producing more in a work day, why oh why are the prices of homes going up? Why oh why are young people in London buying houseboats simply to avoid the extortionate rents? Can we really lift ourselves by pulling on our shoestrings?
Although the complex mathematical models used by central bankers are able to capture a humble fragment of economic reality, to divorce economics from the essential conditions of human existence is a grave folly. Simply, wealth is a function of what we produce, and how efficiently we do so. Economics, unlike Quantum Physics, is built within the lattice of common sense. The local market has traditionally served as an excellent social institution that brought buyers and sellers, deficits and surpluses together. It served as an imperfect regulatory apparatus that checked huge inequalities from wreaking destructive fissures between the numerous interdependent agents of a local economy.
It seems as though the hand of the market has not only gone invisible, but has vanished altogether. It’s evident that the years of low interest rates have sewn clear distortions in a plethora of markets, the most notable being the market for political power; democracy itself. By guaranteeing new entrants into the housing market, prices were guaranteed to go up. The alchemy of bubble-blowing is the simplest of all wealth-illusions. The incumbent Conservative party must be thankful to this cheap sleight of hand for their election success, but as with all displays of ostensible magic, the secular reality is far more underwhelming than credulity would suggest.
The question now remains whether the ghosts of yesteryear will haunt the Bank of England after they do inevitably raise rates. We must be prudent against consecrating central bankers beyond the title of men and women and into archangels of infinite computational knowledge capable of comprehending the economy. With foreign money pouring into London as a safe haven in an unpredictable and volatile world, the Bank of England must realise that if the higher rates begin to suck the winds out of the housing market and consumer spending, the same foreign inflows can quickly flow back out. The conundrum then becomes: how to raise rates, other things now unequal.
