Carney Ready to Raise Interest Rates Soon?

At least that’s what The Globe and Mail is speculating:

The Bank of Canada left its main interest rate untouched at 1 per cent Tuesday, while painting a brighter economic outlook and hinting for the first time since last summer that it is beginning to look for an opportunity to raise borrowing costs.

The statement on Tuesday’s decision was vague about timing, saying only that it may become necessary to increase rates, but that this would depend on “domestic and global economic developments.” However, just by saying so, Mr. Carney is clearly starting to lay the ground work for rate hikes if the Canadian economy and the global backdrop continue to improve.

The question of whether or not allowing the rate of interest to rise will have an adverse effect on the economy is dependent on how much malinvestment has occurred due to previous inflationary policies.  Judging by the fact that Carney and co. have kept rates at or around 1% for a few years now, the distortions that have resulted will likely manifest if the Bank of Canada removes the morphine otherwise known as cheap money.  This means whatever discoordination in capital investment that occurred under the previous monetary intervention will have to adjust to whatever the new “price” of money, or present and immediate consumption, is.  At the present time, it would appear that there is a housing bubble in Canada or that home prices are elevate above where they would be under a non-regulated monetary economy.  Should rates be allowed to rise, it may accelerate the popping of this bubble.

This is not an overinvestment however but merely a malinvestment of capital and resources.  Mises made sure to separate the two in Human Action while describing the process of intertemporal discoordation brought on by easy money:

What induces an entrepreneur to embark upon definite projects is neither high prices nor low prices as such, but a discrepancy between the costs of production, inclusive of interest on the capital required, and the anticipated prices of the products. A lowering of the gross market rate of interest as brought about by credit expansion always has the effect of making some projects appear profitable which did not appear so before.… It necessarily brings about a structure of investment and production activities which is at variance with the real supply of capital goods and must finally collapse.

The world has been wrought with many instances recently where as the rate of money printing slows, the wheels of so-perceived economic growth come falling off.  In the summer of 2008, the rate of growth of the broad money supply as calculated by the Federal Reserve slowed.  Months later, the financial crisis of the century was finally unmasked.  Until very recently, China has been attempting to cool down inflation-induced growth widely seen as something of a miracle with tighter money policies.  The result was plummeting real estate prices, a slack in exports, and an economic slowdown.  Almost a year ago to the day, the European Central Bank hiked rates which in turn reinvigorated the sovereign debt crisis.

Mises foresaw these types of outcomes long ago:

As soon as the afflux of additional fiduciary media comes to an end, the airy castle of the boom collapses. The entrepreneurs must restrict their activities because they lack the funds for their continuation on the exaggerated scale. Prices drop suddenly because these distressed firms try to obtain cash by throwing inventories on the market dirt cheap. Factories are closed, the continuation of construction projects in progress is halted, workers are discharged. As on the one hand many firms badly need money in order to avoid bankruptcy, and on the other hand no firm any longer enjoys confidence, the entrepreneurial component in the gross market rate of interest jumps to an excessive height.

As I have written previously, it’s no secret that contemporary financial markets have become addicted to continual liquidity injections by central banks.  Any slight mention of a future loosening of the monetary spigot brings immediate stock market gains.  Vice versa occurs when an announcement is made signifying the opposite approach.

In our world of central banks, fiat currency, and inflation fetishism masquerading as economic policy, it has become impossible to discern what amounts to sustainable growth and growth fueled only by the deceiving effects of money debasement.  Should Carney allow interest rates to rise, or by some farfetched instance fall further, and begin reflecting natural market conditions, malinvestments will finally come into light as entrepreneurs and investors cut their losses and begin seeking out more profitable lines of production.

There will be short term pain overall but the foundation for true growth can be set if Carney removes his iron grip over the lifeblood of the economy (Rothbard’s term).  As Mises would surely observe if he were alive today in regard to our current financial and central bank system propping up the economy with unprecedented money creation:

The boom is built on the sands of banknotes and deposits. It must collapse.

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One Response to “Carney Ready to Raise Interest Rates Soon?”

  1. Jeremy says:

    Agree completely. Don't listen to what they so but what they do.

    Until the bond or fx markets take the printing press away, none of this chatter matters. IMO Carney has finally realized that liquidity slosh has made its way into housing and he is trying to talk down specs: http://www.bloomberg.com/news/2012-04-18/carney-s

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