The market is expecting a rate hike in December, after the Fed said it thought the economy was improving on Nov 18. Carmen Reinhart, of “This Time Is Different” fame doesn’t think rates can rise too high though in the future.
“The idea that rates are going to normalize and we’re going to go back to 2 percent or 3 percent, real rates, I just don’t see that,” she said.
The Harvard professor wrote a paper in 2011 titled “The Liquidation of Government Debt.”
In it, she says governments loaded with debt will have trouble repaying it if interest rates rise too high too quickly.
“We have the highest levels of debt since the end of World War II. Most governments which have a lot of debt don’t like high real interest rates,” she says.
The debt to GDP ratio in the United States has risen more than 40 percentage points to 101.3 percent since 2007.
She thinks rates will stay low, similar to the period after World War II, when negative real interest rates slowly eroded government debt.
“You had a considerable, extended period of very low nominal rates and high incidence of negative rates which was essentially a transfer from savers to borrowers,” she says. “There is a substantive debt overhang from the financial crisis whether it’s public, private, or both.”
On top, the Fed doesn’t have a reason to raise rates because the economy isn’t overheating. “You don’t exactly have an economic boom going on.”
The economy isn’t growing very fast and inflation is low, so the Fed can keep rates lower for longer, even if they hike a little bit in December.
Rates could go up higher theoretically. “If central banks set as their goal raising rates they have all the tools to do so.I think the impact on economic activity would be adverse,” she says; it would hurt a fragile economic recovery for no reason.
“This idea that we’re going to go back to this 2-3 percent real rate, I just don’t see that.”