Why have interest rates fallen so much?

When the Bank of England launched its new blog a while ago I suggested that, despite the promotional material suggesting it would publish materially challenging current orthodoxies, that seemed unlikely – unless, that is, it was to be a vehicle for challenging orthodoxies that senior management themselves wanted to challenge.

I haven’t seen any sign of orthodoxies challenged so far. But, on the other hand, the blog has proved an excellent vehicle for Bank of England staff to give greater visibility to work on a range of interesting, mostly empirical, economics and finance issues. And to do so in bite-sized, not overly technical, chunks.

A while ago I ran a series of posts (eg here and here) on why New Zealand’s real interest rates had been so persistently high relative to those in other advanced countries. Our real interest rates are much lower than they were 20 years ago, but so are those pretty much everywhere.


Over the last few days, two Bank of England blog posts (here and here) have looked at what lay behind that global trend decline – of around 450 basis points since 1980.   They use as a framework the idea that observed real interest rates, at least at a global level, reflect the interaction of desired savings rates and desired investment rates. At the global level, actual savings and actual investment are equal ,and the real interest rates adjust to reconcile any ex ante differences.

The authors identify a number of factors which they estimate can explain perhaps 90 per cent of the fall. These includes slowing global population growth, falls in desired public investment spending, the falling price of capital goods, an emerging markets “savings glut”, rising income inequality, slower growth rates, and so on. Here is their summary picture.

BOE world real rates

And here is how they apply the framework to thinking about the next few years.

Our framework allows us to speculate what will happen next (Figure 6, above). The big picture message is that the trends we have analysed are likely to persist: we do not predict a big further drag, or a rapid unwind of any of these forces. Some are likely to drag a little further (global growth is set to decline further out; the relative price of capital is likely to continue to fall; and inequality may continue to rise); but this will be broadly offset by a rebound in other forces (particularly demographics).  What happens to the unexplained component depends on what’s driving it. In Chart 6 we illustrate the implications of assuming it is largely cyclical. Despite that, this would still imply global neutral rates will stay low, perhaps around 1% in real terms over the next 5 years.

I don’t find every detail persuasive, but the broad story rings true. Interest rates (short or long term) are not low because of central banks, but because of rather more fundamental forces. And few of those seem likely to reverse any time soon.

Perhaps it would be helpful if the authors had been able to interpret their results for the last 35 years in a much longer historical context. Even if we can explain the fall in real interest rates since 1980, it is much harder (I suspect) to provide a compelling reason for why interest rates are now so much lower (in most countries) than at any time for hundreds of years.  Rapid population growth, for example, was substantially a post-WWII story.  But perhaps that reconciliation is one for another author.

In a New Zealand context, I remain fairly convinced that demographics have played a material role in explaining interest rate pressures here.   In particular, the policy-driven component, of our immigration policies over the decades.   As one small component of a world economy, the argument is not as straightforward as for the world economy as a whole. But with one of the faster population growth rates in the advanced world, it should not be any great surprise that we have seen persistent pressure on our real interest rates (and, hence, on the real exchange rate). We’ve shared in most of the fall in global interest rates, but there has been no sign of any closing in the large trend gap. In the 1950s and 1960s those pressures showed up in tight credit controls and import controls etc (to suppress demand by fiat).  Since liberalisation they have shown up as persistently higher average interest rates than those in the rest of the advanced world. As a result, business investment has been quite subdued, and what business investment there has been has been concentrated more heavily in the non-tradables sector than one might have otherwise expected in an economy that had undergone the sort of liberalising reforms New Zealand undertook in the 1980s and early 1990s.


Fossicking round in some old legislation yesterday, I stumbled on the Music Teachers Act.  I’d assumed this was one of those pieces of legislation that might have gone the way of Raspberry Marketing Regulations 1979, that governed the New Zealand Raspberry Marketing Council until 1999.

But no, the Music Teachers Act is still on the statute books.  It is

An Act to consolidate and amend the Music Teachers Registration Act 1928, and to make better provision for the registration and control of music teachers and the advancement of music teaching.

The prime function of the Act is to establish and govern The Institute of Registered Music Teachers of New Zealand, again with the statutory purpose of

Purposes of institute

  • The purposes of the institute shall be––

    • (a) to promote the general advancement of music teaching, and the acquisition and dissemination of knowledge and skills connected with music teaching:

    • (b) to protect the interests of music teachers in New Zealand:

    • (c) to protect and promote the interests of the public in relation to music teaching:

    • (d) to hold conferences on music teaching and related subjects:

    • (e) to publish a year book, giving an account of the proceedings of the institute, the names of persons currently registered under this Act, and such other matters as may be of interest to members of the institute:

    • (f) to grant prizes, scholarships, and financial or other assistance to any person or organisation that may further the aims of the institute:

    • (g) to administer the fund known as the Helen Macgregor Tizard Benevolent Fund, previously administered by the Music Teachers Registration Board of New Zealand.

Some of these might be worthy enough objectives in some lights, but where is the public policy interest?  And especially in protecting “the interests of music teachers in New Zealand”.  Consumers’ or customers’ interests perhaps, but legislation to protect the interests of music teachers.

The Institute seems to have no powers over anyone, and appears to do some worthy stuff.  But why does it need a statute to make such a body function effectively?  If it offers good courses, or even certification, surely it can do that on its own merits?   The New Zealand Association of Economists, for example, has no statutory backing.

I asked my children’s piano teacher yesterday what he knew of the Act, or the Institute.  He is a smart young guy, who is active in music teaching programmes in schools and privately.  And he had never come across the body.

So perhaps the Act does both little harm and little good. In other words, it is largely irrelevant.  Those of us hiring music teachers presumably do so mostly the old-fashioned way –  by repute, and word of mouth.  And we keep them on if we judge that they are helping our children learn.

For decades, governments have been reluctant to tackle occupational licensing (which is nowhere near as pervasive here as in the United States). But for a third term government with a light legislative agenda, perhaps this is one bit of ever-burgeoning statute books that can quietly be repealed.

(Right after they secure the freedom to fly remote-controlled toy helicopters in the local park.)