Low Interest Rates to Stay in Asia?
Interest rates in the Asia Pacific region and the world have trended downward since the Global Financial Crisis. For many, this is a welcome development, resulting in easier monetary conditions and better access to credit.
Real Interest Rates (%), 2000-2014
Source: IMF, Asia-Pacific Outlook: April 2015
However, much attention is being put on when rates will rise again and what level they will trend to. On this topic, a recent research paper by IMF economists Longmei Zhang and Kum Hwa Oh argues that interest rates are unlikely to revert to their pre-crisis levels and will remain comparatively low for the foreseeable future.
In their paper, they argue that the neutral interest rate - the interest rate consistent with output at its potential level and inflation at the central bank’s target - has fallen in many Asian economies because of lower trend growth at home and a lower global neutral interest rate.
According to their results, the neutral rate fell after the global financial crisis in most Asian economies because of lower trend growth. In economies in which trend growth has been stable, global factors have contributed to the falling neutral rate.
They attribute this decrease to several reasons:
Private precautionary saving has increased since the crisis, while public savings in the form of official reserves have also increased since the crisis.
Demographic shifts, with aging populations close to retirement, have also contributed to higher global savings.
Demand for investment has declined, owing to subpar growth prospects and the declining resource intensity of investment, as today’s large corporations, such as information technology companies, do not need to invest heavily in plants and machinery, as was the case with more traditional industrial companies.
Time will tell whether there forecasts are right or not but the arguments stemming from demographic pressure on savings seems plausible, and have been previously explored at length on this blog.
One question that arises though is how will governments respond to prolonged low interest rates, which in many cases are feeding upward pressure on real estate prices across the world. It seems that if rates were cut as a response to the crisis, there remains much policy work to be done to ensure that the 'new normal' of monetary policy doesn't destablise the global economy by overinflating real estate prices again.