Tuesday, April 24, 2012

The Time Bomb which is Zombification

The Hidden Bank Time Bomb: Interest Rate Risk « naked capitalism:

Yves Smith explains the problem of too low for too long: interest rate risk and zombification.

Basically, once the monetary system has hit the zero-bound on interest rates, there's no where to go, but up.  And, if policy is to maintain rates near the zero-bound for a long time, combined with a policy of low inflation, the effect is to push financial institutions to load up on long-term debt, which carries a lot interest-rate risk.  Any rise in nominal interest rates -- any rise in inflation in other words -- will carry with it an increasing risk of destroying the capital of financial intermediaries, destabilizing the financial system.  And, that risk is increasing, as long as the central bank is maintaining a low policy rate environment.

2 comments:

  1. i never come here
    its my stupidity

    u always have a sharp angle or two i learn from

    ReplyDelete
  2. "Any rise in nominal interest rates"
    can be delinked from
    " -- any rise in inflation.."

    and since a higher nominal rate leads to capital loses on bond holdings there is indeed
    a risk "..of destroying" a serious chunk of
    " the capital of financial intermediaries"

    and "destabilizing the financial system"

    sooooo the fed must keep the rate pinned for now even if
    this in name only recovery picks up by
    one or other group of miraculous conjunctions

    ReplyDelete