Do Low Interest Rates Ensure High Asset Prices?

A country s property rights in foreign oil assets are likely to diminish as the oil price rises.

Funds switched out of Japan have shifted to other financial markets, with the chase for yield driving up asset prices and lowering interest rates.

Despite a recovery in asset prices in many countries and the deceleration of negative growth, unemployment is high and rising.

During the last 20 years, economic growth has been based on rising asset prices and declining borrowing costs for consumers and companies.

Higher interest rates also raise the cost of borrowing to buy these assets, which may diminish demand for them, exerting downward pressure on their prices.

With higher financial asset prices, those firms that ought to be expanding and hiring will be able to get money on more attractive terms.

When interest rates rise, the prices of those assets will fall as well.

The higher interest rates go, the better are investments in bonds, which compete with investments in other assets such as stocks or homes.

As the prices of these assets fall, their yields will rise.

History shows that rising inflation is eventually followed by higher nominal interest rates.

As a result, the cost of capital in the US will soar, discouraging investment and reducing consumption spending as high interest rates depress the value of households principal assets their houses.

A Good Rate Hike for Europe

This gap between Wall Street and Main Street (rising asset prices, despite worse than expected economic performance) can be explained by three factors.

First, it has contributed to rising oil prices.

Consequently, oil prices increase.

The Silver Lining in High Commodity Prices

An expectation that interest rates will be high sometime in the next decade should mean high interest rates on long term bonds today.

Second, it increases global asset demand, generating asset price inflation.

That is enough to shake asset prices worldwide.

This asset meltdown is the reason for the likely recession.

When interest rates fall, the opposite effect on asset prices may be predicted.

The higher prices of food and energy depress real incomes further.

Can High Oil Prices Be Good?

No quick fix exists for oil prices.

In the recent past, the prices of these products have increased faster than steel prices.

Today s low interest rate environment is causing a flood of financial flows to emerging economies, raising the risk of inflation and asset bubbles.

In this case, the price of loanable funds is the real interest rate. An expectation that interest rates will be high sometime in the next decade should mean high interest rates on long term bonds today.

Its proponents argue that it is the main policy instrument left, and that it will work by increasing credit or lowering the discount rate, which will raise asset prices and hence consumption via balance sheet effects.

In theory, when interest rates go up, there is reason to believe that asset prices will go down.

The important question now is whether today s high asset prices are the result of some such fundamental development, or whether bubbles have formed.

But the unprecedented speed and scale of China s monetary expansion remain a concern, given that it could still trigger high inflation and lead to asset price bubbles, debt growth, and capital outflows.

With higher interest rates depressing housing prices, the game is over.

Many worried that it would a rise in the price of train tickets.

When asset prices move, firms that own these assets are forced to revalue them on their balance sheets quarter by quarter.

Ordinarily, a sharp rise in oil prices quickly translates into higher inflation expectations, followed by rising interest rates at all maturities.

But higher energy prices, by themselves, will not cause the ECB to pull the interest rate trigger.

The rise in house prices has begun to stabilize, and the impact of the rise in commodity prices is tapering off.

The struggle to meet rising food and energy prices is hard enough.

From the weather, we move to a crazy price hike in cinema tickets.

Jordanian Moey complains about the increase in alcohol prices in his country.

Could the purchase of foreign resources lead to smoother national income? A purchase will always look beneficial if one looks backward after the resource price has risen.

But the equity price rise is likely to fizzle out over time if economic growth disappoints, as is likely, and drags down expectations about corporate revenues and profitability.

The main result of monetary stimulus has been to boost asset prices anything that pays a yield, a dividend, or a rent becomes much more attractive and hence much more valuable in money terms when interest rates are very low and expected to stay very low.

The second danger springs from high asset values within the advanced industrial core.