BOOK REVIEW: The Price of Time, Edward Chancellor

Are low interest rates a magic cure or a deadly disease? This highly readable masterwork will shock and appall, but will also dissolve your bewilderment and befuddlement about our economic life, writes Simon Bain…

A 400-page treatise on the ‘real story of interest rates’ doesn’t sound like a tell-all page-turner.

Author Edward Chancellor won’t be lounging on chat show sofas to plug ‘The Price of Time’ at £25 a pop. Nor will he pop up on Newsnight any time soon to explain our apparent perma-crisis.

But if he did, he wouldn’t be pinpointing the usual suspects (Covid, Putin, Oil) as the source of our ills.

No, his message is that it is America’s central bankers who have this century driven the world down a disastrous road, putting growth and prosperity into reverse gear – except of course for the gilded few.

He has chronicled and explained, in a brilliantly persuasive reveal, how the UK and wider global economy has got itself into the unholy mess we are in, drowning in unpayable debt, stagnating, inflating, and becoming ever more unequal.

Interest is at the core of capitalism, the bridge between present and future, the balance between savers and borrowers, the cost of waiting, the price of time. (Extinction Rebellion wants it abolished.)

It is at the heart of moneylending and borrowing, from the usury of the ancient Babylonians to the shock of the Great Depression and the modern illusion of the magic money forest.

But Chancellor demonstrates how problems can arise when rates are manipulated. He cites economic thinkers down the decades who have warned against forcing interest rates down to an ‘unnatural’ level – that is, below the growth rate of an economy.

And he finds it unarguable that persisting with artificially low interest rates, which appear so beguiling, has been the real trigger for low growth, high debt, rising inequality, and yes, high inflation.

THE BIG QUESTION

Bank Station, a stone’s throw from the Bank of England

Talk about timely. Everyone wants to know why inflation is through the roof, why interest rates are racing up, and why the Bank of England is so centrefield but seems to be so behind the game.

Well it’s an article of faith that the Bank of England has only one job, to ‘target’ 2% inflation.  But according to Lord King (that’s Mervyn King, governor of the Bank until 2013), it’s the wrong job description. He said in 2016: “We have not targeted those things which we ought to have targeted, and we have targeted those things which we ought not to have targeted.” That’s pretty damning.

It seems that the traumatic experience of the US in the early 1930s has cast a spell on mainstream economists, who believe it proves central bankers’ only task is to ‘keep prices stable’ to avoid the horrors of deflation and therefore inevitably depression.

Chancellor however cites plenty of evidence over 150 years that deflation can coincide with strong economic growth. And evidence that while prices may look stable, trouble can be brewing.

In late 2019, well before Covid or Ukraine, Lord King warned that global debt was higher than before the financial crash, monetary policy was just papering over the cracks in a stagnant economy, and we were sleepwalking towards another crisis.

How so? Inflation was right on target, so central bankers were sleeping easy.

As this real story of interest unfolds, it becomes clear that monetary groupthink has led to a laser-like focus on the price index, whilst ignoring red flags and alarm claxons going off in other areas of a stagnating economy. So it has become officially unthinkable that the doctrine of ultra-low interest rates, compounded since 2008 by ultra-excessive money-printing, may actually be responsible for the mess we are in.

So much easier to pin the blame elsewhere – mainly on regulation. After the last crash, big banks hired thousands of compliance staff and the UK ensured there is now one regulator for every 300 City workers. But Chancellor says “it was never likely that the post-crisis regulations would achieve their intended aim of protecting the financial system from intended mishaps”. In fact, the easy money regime just made the task harder, because financiers inevitably have “a stronger incentive than normal to evade regulations in search of the extra buck”.

THE HOLY WRIT

Alan Greenspan

I began writing on finance in 1987, and I didn’t realise till now that it was only after the market crash that year that a new economic doctrine emerged. Manipulating interest rates, to control current real-time inflation, which stock markets didn’t like, was born under new Federal Reserve chairman Alan Greenspan.

It soon became holy writ, and because the dollar is the world’s reserve currency it effectively controls other currencies. So the rich nations’ central banking club of the globe had to follow it. Over time, a precise 2% target was adopted by the entire club and acquired a  “talismanic significance”, the author says.

Lord King wasn’t the only naysayer. Paul Volcker, Fed chairman in the 1980s, said: “A 2% target, or limit, was not in my textbooks years ago. I know of no theoretical justification. It’s difficult to be a target and a limit at the same time.” To ease monetary policy when the economy and employment were booming, merely because inflation wasn’t quite on the target, “would be nonsense”, he said.

But that’s what happened. In his two decades as Federal Reserve chairman, “monetary policy was frequently tweaked to give the financial markets what they wanted”, Chancellor says. “For which Greenspan earned lavish praise, becoming in time a totemic figure to Wall Street, a monetary shaman whose indecipherable incantations had the power to keep markets aloft”.

In the early 1990s after a US mortgage bank crisis, rates were cut because “Greenspan wanted to help Wall Street out – cheap short-term borrowing enabled banks and hedge funds to mint profits” through that mysterious trick of “riding the yield curve” (don’t ask, but it’s about knowing which direction rates are heading in).

By 1995 the US economy was becoming more productive, creating a higher return on capital. But the Fed “held short-term interest rates below the growth rate of the US economy between early 1992 and the end of the decade” in what the author calls “an unwritten contract with Wall Street”.

After a brief rate hike around the Nasdaq (dotcom) bubble, rate suppression resumed in 2003.  Inflation stayed below 2%. All was well with the world, prompting global complacency and self-congratulation typified by Gordon Brown’s hubristic celebration of ‘an end to boom and bust’.

But US policymakers had deliberately “created a housing bubble to replace the Nasdaq bubble”, and it was the housing bubble that blew up the financial system.

The author says: “It was only after the Fed’s easy money policy was launched that credit growth picked up, financial leverage soared, housing markets bubbled, and the repackaging of subprime mortgage debt into collateralised debt obligations (CDOs) took off. Low interest rates fed the demand for credit, while financial innovation increased its supply.”

But while academic economists eventually admitted it, “long after the financial crisis, economists at the Federal Reserve continued to deny that house prices were affected by monetary policy”.

As for wizard Greenspan, “his real achievement was to inflate a series of asset price bubbles and protect investors from the worst of the fallout”.

THE TRAP

The European Central Bank

Why did the contagion spread across the globe, from Australia to Iceland? Most pundits blame an opaque debt market, poor regulation, excess global savings, and so on and so on. But the author protests: “There’s no need to appeal to ad hoc explanations: easy money produced the boom and the boom was followed by the inevitable bust.”

After 2008, rates went from low to ultra-low, staying close to zero for seven years. Yet “through thick and thin, central bankers would cling obsessively to their sacrosanct target”. In 2014, the European Central Bank president Mario Draghi when asked about collateral damage said the target was its “ultimate and only mandate”.

Chancellor concludes: “Never mind that central bank policies contributed to rising inequality, undermined financial stability, encouraged ‘hot money’ capital flows and fostered numerous asset price bubbles from luxury apartments to cryptocurrencies. The ECB would pursue its target, let the consequences be damned.”

When interest is negligible, people will do almost anything.  The reviled CDOs which had sparked the big bust were replaced by almost identical CLOs (don’t ask). The ‘duration’ of bonds moved out to 50 then 100 years. The rates on bonds moved from negligible to negative.

But the central banks are now caught in a trap of their own making. Never-ending QE, much criticised for its ramp-up during the lockdowns, has created “an overwhelming political imperative to keep rates low”, Chancellor observes. Not least because in the UK every 1% rise in the cost of government debt creates an extra interest bill equating to 0.8% of our economic output (GDP).

For a decade now, the merest hint that rates have to rise or QE has to be wound down has sent the financial markets into a tizzy, and politicians into a panic over rising mortgage costs. Which is where we are today.

We have been told that the UK’s big problem is “the most dismal productivity performance since the Industrial Revolution” (in the Eurozone it’s even worse) which is counter-intuitive, Chancellor says. “Heads were scratched. Academic papers written. Civil servants consulted.” The compelling answer is that easy money has for too long allowed inefficient ‘zombie’ businesses to stay half-alive in the forest, creating subsidised competition with stronger rivals for the food of income and profits, and choking the ability of start-ups to take off and survive in the undergrowth.

So it would appear that as long as rates are suppressed, the popular UK narrative of inevitable economic decline becomes self-fulfilling,

THE WINNERS

 

The Greenspan boom sparked a ‘buy-out’ bonanza, enabling financiers to take control of huge corporations with nothing more than cheap money and chutzpah, in a wealth extraction exercise. “The buyout business model normally involved acquiring healthy firms and putting them through the financial wringer,” the author says. Research suggested most buyouts saw little improvement in operations or business strategy, and most private equity firms cut long-term investment. Chancellor is scathing: “No set of individuals benefited more from the Fed’s easy money than the buyout barons. None was less deserving.”

Nothing changed after 2008. Far from punishing financiers, an era of even easier money created a new cadre of actual and aspiring billionaires. It renewed a debt-fuelled merger mania akin to the age of industrial cartels which swallowed up America’s basic industries a century earlier. “Kraft Heinz was one of a number of so-called platform companies, similar to the trusts of the ‘robber baron’ era, which used debt to finance anti-competitive mergers.” US company numbers halved, and three-quarters of US industry sectors were by 2019 significantly more concentrated.

The studies on this are clear. Price-fixing cartels form at times of low interest rates. Monopolies create barriers and discourage innovation. Rising concentration boosts executive rewards, weakens worker power, and stifles growth.

Easy money also encouraged even more financial engineering: companies rushed to use debt to buy back their own shares, artificially raising earnings per share and thus triggering windfall rewards for executives. The top 500 US companies were already spending more than half their total profits on share buybacks before the crash, and in the decade after it the ‘investment’ jumped by 50% to $720billion. “Short-term investors, bankers and senior corporate executives benefit from this financial engineering but no one else is better off.”

The Bank for International Settlements warned in 2015 that finance was crowding out the real economy. Finance had taken over from industry as the supposed engine of growth. Even the Bank of England’s then chief economist Andrew Haldane admitted that financialisation stifled investment and slowed down growth (but not that it was central bankers’ fault).

Of course, so-called loose money had become even looser since 2009 thanks to huge bond-buying programmes by the central banks known as QE.

It all served to turbo-charge the ‘everything bubble’. Unable to earn any return from banking deposit rates, money poured primarily into property but also into so-called alternative assets from art to NFTs to cryptocurrencies.

“Since the rich owned proportionately more financial assets, they enjoyed more of the spoils as the market recovered.”

The buyout wizards of Wall Street did best of all, led by Blackstone boss Steven Schwarzman with annual earnings in 2015 of $800million. (Thank you Mr Greenspan.)

“The broad inflation in the prices of bonds, stocks, real estate, cryptos and just about every other financial asset produced an extraordinary surge in wealth,” Chancellor says. It was “virtual wealth”, even “the illusion of wealth”.

But for those without such assets, there was just the illusion of savings.

THE LOSERS

Who pays the price for ultra-low rates? Everyone who has to save for their retirement. When interest is at 6%, savings double every 12 years. When it’s at 1%, that takes 70 years.  When rates crash, retirement funds are squeezed with lower returns and higher liabilities. “As a result, a pensions crisis appeared in the US and Europe. Retirees around the world faced the grim prospect of outliving their savings and dying in penury.”

St Augustine defined interest as “a virtue which renders to everyone his due”, the author notes, adding: “An equitable rate of interest is one that is neither too high nor too low. When the scales are tipped too far in the direction of low interest rates it’s plain unfair.”

In America, middle-class households lost on average 44% of their wealth during the property bust. The poorest households were in 2013 earning no more in real terms than they had 30 years earlier.

In the UK, ‘generation rent’ arose. “As house prices climbed, there was a steep drop in the number of Britons moving home to start a new job. Young homeowners who took out large mortgages had less money to spend on other things.

“While the rich got richer, the poor stopped having children. High levels of student debt, weak income growth and elevated house prices discouraged young couples from starting a family.”

And lets not forget that for the already poor, interest rates were not ultra-low at all. Credit card rates remained unchanged, while payday and other short-term lenders kept their rates ultra-high.

THE WARNINGS

The Shanghai skyline, China

In March 2020 markets went into meltdown as Covid emerged.  Governments went into rescue overdrive. “Never outside wartime had governments run up so much debt, borrowed so cheaply or spent so quickly. Never had governments closed down large parts of their economies while maintaining, and in some cases boosting, people’s incomes. The world had indeed turned upside down.”

And that meant the Everything Bubble had (maybe) one last, top it all, fling. Stocks, house price and cryptocurrencies went through the roof, app-based trading in fashionable stocks soared, special purpose companies were created with blank cheques “to purchase  speculative ventures in EV technology, space travel, flying taxis, and cannabis farming”.  A digital collage NFT (non-fungible token) sold at Christie’s for $69million.

The author suggests: “Lewis Carroll might have imagined a financial Wonderland in which bonds subtract interest, unicorns gaze on lush monetary pastures, and companies are worth more bankrupt than as going concerns; in which money that can’t be exchanged soars in value; in which central bankers create wealth by printing money and government deficits create private savings.”  Maths don Carroll, in fact, did create much of this world in his various writings.

But more recently have come signs of the nightmare after the dream. In 2022 rates finally began to rise again under the cosh of post-Covid and post-Putin pressures. When bond markets took fright at the UK’s mini-budget in September, the Bank of England had to intervene to support pension funds on the hook for a sudden spike in liabilities.

In November Bank director Sarah Breedon said there had been “threats to financial stability”.  She blamed failures in the “non-bank financial sector”….the dreaded ‘shadow banking’ sector which clearly still sits underneath the visible sector like an unexploded bomb.

The book closes with a fascinating analysis of China. It suggests that China, which pioneered and continues to enforce ruthless control of interest rates, has engineered bigger bubbles, wider inequalities, and higher risks of depression than any other society. Suppressed interest rates have spawned debt three and a half times GDP, used to a large extent for misdirected and useless investments in massive, unused, infrastructure and housing.

Iceland, meanwhile, which after its own mega-crash in 2008 adopted sharply divergent ‘tough love’ measures to resuscitate the economy, recovered to normality within a decade.

Chancellor warns: “As economic growth has faltered, Western societies have become more polarised. While minor recessions don’t strain the political fabric, the Great Recession did. It is not great surprise that support for democracy among the younger generation has weakened in recent years.”

Indeed, a poll of 8000 adults by think tank Onward in September found 61% of those aged 18-34 support the UK being “run by a strong leader who doesn’t have to bother with parliament/elections”, and over a quarter agreed that “democracy is a bad way of governing”.

Might this be the future cost of interfering with the price of time?

The Price of Time is written by Edward Chancellor and published by Allen Lane, £25

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