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View from Dublin: Zero level interest rates may not be a good bargain in the end

By Brendan Keenan

Published 11/10/2016

The European Central Bank arrived late on the scene but the fall in the cost of money compared with even historical averages has been worth around 2% of GDP to Ireland
The European Central Bank arrived late on the scene but the fall in the cost of money compared with even historical averages has been worth around 2% of GDP to Ireland

On account of misreading the timetable, I spent part of my holiday sitting in a small Italian station waiting for a train that was not running.

That gave me plenty of time to study how decrepit was the station, the track and all the other pieces of equipment.

It also prompted the thought that, even though Italy's borrowing costs are among the highest in the euro area, at 1.3% for 10-year loans, surely it would make sense to raise some money and fix things up.

That was a couple of months ago, but suddenly the effects of ultra-low interest rates are all over the financial news - and it is mostly the bad news. Until now, the general view has been that central banks did a great job in forcing down rates to levels not seen before, thereby saving more banks and countries from collapse Irish-style. It has also been an enormous help to those which did collapse. The European Central Bank arrived late on the scene but the fall in the cost of money compared with even historical averages has been worth around 2% of GDP to Ireland - €4bn (£3.6bn) a year - and helped avoid the painful dislocations of having to default on debt.

Those were emergency times. Concern is growing at the absence of any sign of a return to normality. The flurry of coverage may owe something to last month's report from the Organisation for Economic Co-operation and Development (OECD) which saw the preponderance of zero interest rates as increasingly part of the problem, rather than part of the solution.

It is a truism that if something has not happened before, its consequences are unforeseeable. They certainly may not all be benign. The worrying conclusion in the report is that the world is in a 'low-growth trap', where investment, wages and spending are all constrained by near-zero inflation, thereby choking growth and employment as well.

There has been some recovery in emerging markets, but things are slipping again elsewhere, especially in Europe. The report sees last year's growth of 1.9% in the euro area declining to 1.4% next year. Brexit is expected to push Britain's respectable 2.2% growth below the euro average, falling to 1% in 2017.

The weakness in the US may be less troubling, owing a lot to oil prices curbing investment in new projects and a rundown in stocks elsewhere.

Yet any setback seems enough to scare a jittery Federal Reserve away from the long-promised (or is it threatened?) rise in rates.

Property prices are raising their ugly head again. Lower rates mean higher asset prices, whether of stock market shares or houses to let. The OECD notes that real house prices have been growing as fast, or faster, than during the run-up to the crash in a number of countries. In Britain, Canada and the US, commercial property prices are already above pre-crisis highs.

It recommends counter-measures of the kind controversially put in place by the Central Bank of Ireland. It is in fact rather difficult to fit Ireland into this global picture.

Interest rates are high for those not fortunate enough to have bubble-priced trackers and, with inflation at zero, real rates are at the kind of levels which would have crippled growth in the past. Yet, as we know, Irish growth is the envy of Europe.

Much of that is semi-automatic recovery from artificially low levels of business and construction activity during the Crash. According to the ESRI, recovery is now complete and, unlike most of the euro area, the economy does not need stimulus.

Irish policymakers find themselves in an odd situation, even if the political situation were not so unstable.

Belfast Telegraph

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