Though at the present time, the Federal Reserve System has reversed its Zero Interest Rate Policy, the fact of the matter is, that the Fed, over an extended period of time, made the cost of money, that is its zero interest rate policy, the norm for the borrowing of that money for the biggest banking institutions in America, of which, because the cost of borrowing that money was near zero, meant that those that were the most credit worthy, discovered that, for them, borrowing capital from those big banking institutions would be at historic low rates. In theory, the reason why the cost of money, as in the interest so charged to borrow such, was so low for so long, was to stimulate the economy, but based upon the economic growth so seen during that period of near zero interest rates, the truth of the matter is, that intended stimulation did not come to fruition.
So then, one thing that happened when interest rates were held so low for so long, is that a conscious decision was made to punish those that were savers, who represented those entities that typically kept their money in cash instruments such as short-term bonds, certificates of deposit, and money market funds, in which, because the interest rates were unnaturally low, meant that those entities so investing in these types of cash instruments, would find that their investment vehicle of choice, offered no real return, at all. This then made those that were invested in these cash instruments, to either accept what was so happening as the “new normal” or else to invest in other investments such as equities or real estate, in order to generate the hope of some positive return on their capital.
Further to the point, near zero interest rates, are exactly the format that favors those that understand that leveraging is a form of increasing one’s wealth, when invested well into risk assets, that have a good chance of appreciating, and by virtue of borrowing that money at such a low cost, and then having those assets, such as stocks or real estate, outperform the cost of that money so borrowed, would see then that their overall assets would increase at a far greater rate than if they had not leveraged up. Of course, leverage, at any time, comes with a certain degree of risk, and when bets are made that are wrong, it doesn’t matter so much that the cost of money was cheap, when the underlying asset is falling precipitously in value, for then such leverage as that, compounds the losses, so of.
So too, when interest rates were dropped to near zero, it was hoped by this government, that corporations would avail themselves of this money, at such a small cost, in order to stimulate the economy by hiring more employees, increasing funds so devoted to research and development, and pretty much borrowing funds now, at this near zero rate, in order to boost throughput and product development. Regrettably, this isn’t really what happened, for despite the fact that businesses seem to be in business to sell product and to develop new products; we do so find that many a company sees cheap money as primarily an easy way to boost profits and thus shareholder value by simply buying back the company’s stock, so done by the issuing of bonds to collect investors’ money at a near zero cost, to do exactly that.
In short, while during the era of near zero interest rates, asset prices of equities and real estate rose considerably, we have yet to have seen fully played out, the inconvenient fact that when economic growth still remains anemic, that eventually those asset prices will have to normalize to reflect that.