Wednesday, March 08, 2006

Interest Rates/Inflation: Back to the Future?

More and more, recent times remind me of the 1970s in terms of the economic background of high commodity prices, high oil, and US fiscal problems, much of it brought on by an increasingly unpopular war.

Which got me thinking about the comment I first came across on Random Roger's site, wherein an article in the WSJ postulated that long-term interest rates might be notably lower than otherwise, due to baby boomer's moving progressively out of the stock market, and into the bond market. Aside from questioning the long-term logic of this from an individual perspective, something I did over here, I began to think about it in a more recent historical context, and conclude - in my opinion - that's it's unlikely to have much effect. Perhaps some, but not much.

I'll use the last decade of noticeably high interest rates as an example: the 1970s. Some of the factors that should have produced lower interest rates in that decade were:
  • A low birth rate between 1930 (depression era) and 1945 (WWII), resulting in relatively few 25-45 year olds in the 1970s (25-45 year olds tend to require the most loans, due to family formation, house and car purchases etc.);
  • A number of persons aged 50-65; then considered to be prime savings years;
  • Infrastructure expenditures of the late 1940, 1950s and early 1960s relating to the re-building of Japan and Europe mostly or fully complete;
  • Major American infrastructure expenditures, mostly of the 1950s and 1960s, complete;
  • Most of the baby-boomers had not yet reached significant household formation age - a time of major draw on capital markets.
In short, I think this should have been a time of relatively light capital requirements, yet interest rates started the decade at a mostly benign level, but quickly accelerated to relatively - and persistently - high levels. Other factors swamped what I think should have been a time of light draw on the capital markets and produced markedly high interest rates.

I think in a similar fashion that other factors of today will have a far more significant impact on long-term interest rates than boomers who may - or may not - move capital into the bond markets.

Now this is just my own quick thoughts on this situation - I'd love to hear from others who might point out flaws in my thinking. Also excuse me if the WSJ already brought these up, as I haven't read that original article. Interest rates and inflation - back to the future?


The Confused Capitalist

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