There's an economic situation that takes place when you have low interest rates and a high savings rate and what ends up happening is that if you have an economic downturn, stimulating the economy with money injection is no longer an effective tool.
It's called a liquidity trap and this is something that I think is going to be taking place in China. In fact, it is already happening in China and I think it's going to get worse for them. And this is something that has occurred in many economies throughout the world. Japan has experienced it for quite some time. This is where the lost decade came in.
And the idea, that you can get the people to spend their money... this is really where the problem occurs. Because it's more of a perception. It's more a psychological thing than it is an actual economic event. It's people - deciding whether or not they're going to spend or invest their money.
And when you have a situation, in which you have low interest rates, the return on capital investment becomes very low or even negative. (I'm talking for majority, who are keeping cash in bank accounts - not talking in name of pro investors or traders)
So the idea of just holding cash is better than investing that money. And this is really, where the problem for the central bank occurs. Because when they want to stimulate the economy by injecting money into the system, it gets people to go out there and start spending that money.
It creates kind of self-perpetuating or self-fulfilling prophecy of being able to go out there and spend money. The idea of spending money and then getting people to spend money. When you drop interest rates or do money injection, this gets to the people out there and starts to get the consumers stimulated. It gets moving again.
But if you're in a situation in which they already have the money available to them and you have low interest rates... how is it that you get the consumer out there, spending their money??
The only way to really do it, is to get them to have a return on their capital investment! And this is by lifting interest rates.
...see, this is really what's kind of strange for people to even kind of understand; is that for the longest time, anytime the Federal Reserve wanted to stimulate the economy, they would lower interest rates. But by lowering interest rates they were able to get the people to go out there, and start borrowing money. When they borrow, this money - they could buy houses and cars and go on vacation and use that money to stimulate the economy... But right now there's situations in which (like in China, where they cannot get the people to go out there and borrow money in fact they're having a hard time getting people to even pay their debts) they are trying to stimulate your economy with monetary policy by dropping of interest rates - that's not the effective tool that they're going to be able to do. They can try and spend money like just the government is spending into the economy just to get that perception to the people, that there is a good economy coming in the future. And that might get people to start spending their money. Might. Or you can (like i said) lift the interest rates that would get people to start spending their money as the return on capital investment would start to go up. And this is something that a lot of people don't really quite know how to wrap their heads around. I hope I can help anyone hereon Hive to have better and deeper financial perception of macro economy.
