“Interest rates are the price of capital. As profits increase, there is going to be a need for a capital-rationing process,” Treasury Secretary John Snow told a British newspaper, as quoted in the Washington Post. “I’d be frustrated and concerned if there were not some upward movement” in rates.
Snow is mostly all wet. Interest rates are the price of credit, or equivalently, the price of time, the intertemporal price, not the price of “capital.” The term capital is used in a variety of ways, and it’s poorly used in this context, even if we add the adjective “financial.”
The secretary is partially correct on the cyclical behavior of interest rates. As the demand for loanable funds rises, especially during a (healthy) recovery, interest rates rise to equilibrate between the demand for investible/loanable funds and the funds saved (true abstaining from present consumption) and offered for loan. Healthy stuff here, but Snow overlooks the bigger picture. The machinations of the Fed and its printing presses of “high-powered” money create false “savings” offered for loan through the banking system and artificially depress interest rates from the natural or market rates, regardless of the stage of the business cycle. That misleads entrepreneurs and results in the whole host of misallocations and avoidable suffering we call the boom-bust cycle. On monetary policy, as Mises wrote, “All governments are firmly committed to the policy of low interest rates, credit expansion, and inflation.” We might add: today, tomorrow, and all the time!
