From the Canadian Finance Blog: "Low Interest Rates: The Good, The Bad and The Ugly"
Many believe Canada could experience Japan like interest rates for a decade or more. They believe that low interest rates will save the housing bubble from popping. While they may be right in the short term, in the long term, low interest rates are worse for an economy and this is why.
The GoodIn general, low interest rates are good for anyone who wants to borrow money. Here are a few examples:1. Individuals:2. Businesses:3. Governments:In general, lower interest rates are seen as stimulative for the economy, as consumers tend to buy more, businesses invest more, and governments can afford social programs.
The BadLow interest rates are usually not so good for lenders and savers like the following:1. Older or Retired People:2. Risk Averse Savers:3. Insurance Companies & Pension Funds:Very low interest rates can lead consumers, businesses, and governments to take on more debt. They can also make it very difficult for retirees and other risk averse investors to achieve the returns they need.
The UglyInterest rates that are held too low for too long can lead to unintended consequences like asset bubbles, inflation, and other economic dislocations:1. Real Estate Bubbles:2. Commodity Bubbles:3. Equity Bubbles:4. Debt Bubbles:Bubbles don’t become ugly until they pop. There are 2 main problems with any type of bubble: First, they always pop eventually. Secondly, we never know when they are going to do it.
From Seeking Alpha " Artificial low interest rates hurt economies in the medium and long term"
Maintaining artificially low interest rates or excessive money supply does permanent damage to economies in the medium- and long-term because it delays creative destruction, the process of replacing low-return investments with higher-return investments.Lowering of interest rates has definitely helped our Conservative Government over the past couple of years.
As long as the interest rates are kept artificially low, profit from lower-return businesses is possible even if it is not sustainable. Hence, the short-term benefits of artificially lower rates are that they keep more businesses operational and slow the decline of existing jobs and consumer spending – which is what helps keep politicians in office and regulators employed.
However, since there is a finite amount of financial capital, the opportunity cost of subsidizing investment in low-return opportunities is lost opportunity to invest in high-return opportunities. I believe that the longer this pattern persists, the more damaging and the larger the permanent loss of capital, the longer the delay in creative destruction and the lower the long-term growth potential of an economy.
In the same way that artificially low interest rates lower the long-term growth potential of economies, speculative investing lowers the long-term growth potential of capital markets because it drives allocation of capital to lower-returning investments. In fact, taken to its logical conclusion, artificially low rates and speculative investing can eventually, if left in place for too long, ruin economies and markets entirely. In addition, speculators, like low-return investors, can be put out of business quite quickly when rates rise or money gets tighter.Low interest rates are not a sign of a strong economy. And for a healthy real estate market, a strong economy is a must. Low interest rates would be a sign of low inflation, which would lead to slow wage, GDP growth. Low inflation would probably also mean high unemployment and the possibility of more frequent recessions.
To think that Canada will have low interest rates for a decade or more and a housing bubble that does not pop is being very optimistic, if not unrealistic. History in the last 25 years shows us that 2 of the biggest economies, Japan and the US, still had housing bubbles that popped WITH low interest rates. Even with the lowering of these already low interest rates, this has not saved the Japanese asset bubble 20 years later and the US housing bubble a few years later from recovering.
So in the short term, low interest rates will keep house prices where there are, maybe even squeeze some higher prices out, but over the medium and long term, when the housing bubble pops and it will, not even low interest rates will save the housing market. And if and when that happens, look for authorities to prop the overall economy up.