Tuesday, March 24, 2009

Interest rates


Rate cuts used to be an effective tool to balance inflation and the money supply. However, in desperate times, they seem to have minimal effect except to encourage panic. Whatever little effect they have are obscured by the lack of public confidence. And we cannot go much lower with the US interest rates at 0-0.25% and Canada at 0.5%.

The Central Banks now has a problem. It simply cannot do much more on the rate front. Only two other options are available: (1) increase the money supply independent of interest rate policy; and/or (2) expand credit by more purchases of the illiquid paper in the financial system.

In either case, most of the onus for future domestic stimulation will fall on government spending which will eventually fall back on taxpayers. Yet, it will still be a price worth paying if it can produce positive results.

We have to constantly be prepared to ask how are the governments spending and how effective will their fiscal policies be.

No comments: