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The risk-free interest rate should be zero

June 30, 2017

Isn’t it strange we so easily accept the idea that central banks should pay a riskless return on money? For doing absolutely nothing and taking absolutely no risk, a so-called ‘investor’ receives today a guaranteed $22,790 per million of wealth for ten years. That’s about twice what the average retiree gets in social security. The bonanza’s even greater in poorer countries. In Mexico, it’s $67,100, over 13 times the median household income. How is this justified?

Ideology has it that riskless returns to wealth are needed to control inflation. But this is counter-intuitive. It would seem that giving riskless handouts of money to a particular class would actually do the reverse and spur inflation. The standard response, though, is that higher riskless rates also increase the cost of bank borrowing and thereby slow the economy via reduced investment spending.

From a democratic perspective, this all smells pretty fishy. The riskless interest rate should be fixed at zero—wealth holders should not be given free money. I think this is plain common sense. If the monetary authorities want to slow the economy for some reason, there are many democratic ways they could do so. They could, for instance, institute a tax on new investment, an action which would functionally be about the same as higher bank interest rates except that the income from the higher rates would flow to public coffers rather than bank profit.

From → Dynamics, Suppression

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