The controllers of the money need to increase the supply of money. Currently that is done by controlling the overnight interest rate that banks pay. Maybe they should do it differently, but that’s not the main point right now.

Just because the overnight interest rate is lowered, that doesn’t mean the banks would necessarily lower their interest rates. Indeed, they probably shouldn’t (for the reasons Terje points out). They would have a good excuse for not cutting their rates — and that is that they need higher rates to attract the savings.

Clearly the mandate creates inflexibility which creates shortages and gluts – i.e the things we see in recessions and depressions. A central bank can at best mimic private issuance of currency which has an incentive to keep currency stable. Government at best can have a goal of currency stability which is undermined by institutional and political factors.

Price fixing by private firms in the monopolist sense is good. Yes, it is good. It encourages other firms to compete or create alternative substitutes.

Without the price signal, the market remains underserviced or short of R&D funding.

But you guys are crazy if you think price fixing is ever going away. Price fixing always happens sooner or later. Get rid of it in one form it comes back in another, legal or illegal. When big business is involved if it starts illegal it normally ends up legal Thats one for you FR lovers !!

But there should be some control of the money supply right? The temptation to abuse is too great without any control. As soon as you have that control in place, you by default have price fixing of a type.

As far as I can see, the only way to improve the quality of the loan book is better DD on the borrowers and assets. A lower interest rate will attract more borrowers and give you the opportunity to increase your DD while keeping up the level of loans made.

with respect to current borrowers, I only said that keeping the interest rate low will reduce the chance of defaults, but in a sense, the quality of a borrower is relative to the burden on the loan, so lower interest rates does increase the quality of the loan book to that limited extent.

I agree that low interest rates is the major cause of the problem in the US, but not because of bank margins, rather it is the malinvestments produced by the unsustainably low rates that is the problem.

I think JC and john humphreys answered your last paragraph on another thread.

Either way I do strongly suspect that keeping interest rates low in the USA has been a primary cause of the problems we are now seeing there. It has lowered the opportunity for banks to make margins and pushed them (metaphorically speaking) into chasing volume via a lowering of quality. Any long term solution that entails the continuation of interest rate price fixing is going to entail recurring gluts and shortages in the credit markets and recurring issues of quality. It is flawed monterary approach perpetrated by deeply flawed government institutions.

Ideally credit prices should be almost entirely deregulated and liberated. In so far as we continue to have fiat currencies we should have monetary authorities that manage the value of those currencies via benchmarks against real commodities with real production costs related to market reality. The notion of a central “bank” or lender of last resort should be purged from our societies.

However, your theory on the benefits of increasing interest rates assumes outcomes that might not happen.

Surely increasing rates would lead to a reduction in the demand for loan funds and thus a reduction in new business and also contributing to a general reduction in business conditions (at some level). Thus increasing reliance on existing borrowers who may not have the capacity to pay the increased rates.

Increasing interest rates could lead to aggravated foreclosures and a downward spiral. The long term health of a bank might be enhanced if it reduced interest rates to borrowers while increasing rates on deposits and thus accepting a small profit/loss situation for a period to keep borrowers going while improving its own funding position.

Your post makes the point that markets get out of whack when prices are fixed. The central banks influence interest rates by manipulating the supply of money, which has the same effect as fixing a price, but is not quite so obvious and thus the problem it creates is hidden(ish) for a while.