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The Interest Rate Contradiction

Paul Krugman writes a good piece here about interest rates and those people who often claim that the Fed is hurting savers by keeping interest rates low.  But there’s a very serious contradiction in this view that appears to be overlooked in most cases.  While it’s true that the Fed has kept rates low and reduced interest income to savers there’s also a flip side to this story.

First of all, as Krugman notes, the people who most benefit from high interest earning financial assets are the wealthy – the people who probably need the least help right now.  Second, the people who often complain about the Fed and low interest rates are generally the same people who complain about the budget deficit and high government debt levels.  But if the Fed raised interest rates then this would, by definition, increase the interest expenses of the US Treasury which means these same people are implicitly in favor of INCREASING the budget deficit through the interest rate channel.

At present the US government pays about $230B in interest expenses every year.  If you’re in favor of raising interest rates then you must be in favor of increasing this interest expense item in the federal budget which means, all else being equal, you’re in favor of increasing the deficit and the national debt.



Said differently, it’s a contradiction to be in favor of higher interest rates and a lower budget deficit and national debt.

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