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Credit Allocation and the Role of Interest Rates as the Price of Credit

In: Financial Markets and Economic Performance

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  • John E. Silvia

Abstract

Are low-interest rates an incentive to misprice capital? In the traditional view, low-interest rates prompt increased consumer spending, business investment, and economic growth. However, the case of the housing bubble/bust indicates that low-interest rates may lead to a misallocation of financial and real capital. Central bank policy is one example of administered rates and the purposeful change in the pricing of credit. However, there is no obvious truth that whatever the central bank policy rate is, that is the correct rate for long-term economic growth. The “Conundrum” cited by Chairman Greenspan hints at the limits of our expertise. The yield curve allocates credit over time but also reflects market expectations. After the U.S. presidential election in 2016, markets priced in higher inflation, on the expectation of incoming expansionary fiscal policy. Yet, the upward momentum in long-term yields was largely reversed.

Suggested Citation

  • John E. Silvia, 2021. "Credit Allocation and the Role of Interest Rates as the Price of Credit," Springer Books, in: Financial Markets and Economic Performance, chapter 0, pages 147-181, Springer.
    • Handle: RePEc:spr:sprchp:978-3-030-76295-7_4
    DOI: 10.1007/978-3-030-76295-7_4
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