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Monetary Policy and Unnatural Low Interest Rates: Secular Stagnation or Financial Repression?

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From the journal Review of Economics


Market interest rates have been on a declining trend over the past 35 years in all advanced economies, even reaching negative territory in some European jurisdictions. This article reviews two competing explanations for the occurrence of unnatural low interest rates. The secular stagnation hypothesis of Keynesian origin maintains that persistent non-monetary factors have caused a structural excess of desired savings over planned investments which steadily pushed down the equilibrium real interest rate that is consistent with a balanced economy. Major central banks in turn failed to sufficiently lower their monetary policy rates to revive aggregate demand, leading to anaemic economic recoveries and hysteresis effects. By contrast, the financial repression doctrine argues that central banks pursued low interest rates to ease the government budget constraint and serve political objectives. The Austrian School of Economics states that this monetary easing bias sowed the seeds of repeated boom/bust cycles and created economic distortions that dragged down potential growth and the equilibrium real interest rate. The core of the debate appears to be the long-standing controversy about the desirable role for the state in guiding the economy on a higher potential growth path as opposed to relying on the efficiency of market processes in generating prosperity.

JEL Classification: B22; B53; E12; E43; E58; E62


The views expressed in this article are those of the author and should not be reported as representing an official position of UNU-CRIS.

Annex: A taxonomy of interest rates relevant for monetary policy

This annex summarises different concepts of interest rates that are frequently used in monetary policy debates. Following the Austrian economics literature, at least five types of interest rates can be distinguished (see also Borio, Disyatat, and Rungcharoenkitkul, 2019; Garrison, 2006; Hoffmann and Schnabl, 2016; Salerno, 2016). [18]

  1. The natural interest rate balances the propensity of producers to invest with the propensity of households to save and it emerges in the market from the interaction between borrowers and lenders arising from these private sector preferences. The natural rate of interest governs the allocation of the economy’s resources over time along a sustainable growth path and it will shift when the prospective return of employing capital and labour in the production process changes relative prices and time preferences.

  2. The neutral interest rate ensures macroeconomic equilibrium, as defined in terms of a balanced economy characterised by low and stable inflation as well as full employment of labour and capital resources. This view of macroeconomic equilibrium is sometimes extended to include financial stability, i. e. the absence of financial imbalances. The neutral rate of interest offers a benchmark for the monetary policy rate that governs the overall level of activity at each point in time and is imposed on the market by the central bank acting in conformity with its mandate; it may differ from the natural rate that is freely determined by market forces that drive the intertemporal allocation of resources.

  3. The monetary policy rate is the official interest rate of the central bank at which it provides regular short-term credit to the banking system. The official rate may be complemented by key interest rates applicable to banks’ exceptional liquidity demand and banks’ reserves held in their central bank accounts, as well as by forward guidance on the expected monetary stance in terms of the money market rate and the liquidity of the banking system.

  4. An administered interest rate is directly fixed by a monetary or regulatory authority and may involve ceilings placed on bank deposit rates, bank lending rates or restrictions placed on capital market rates for public policy purposes. Financial repression is the practice of distorting the market price of capital with a view to steering the flow of funds in the economy, in particular with the goal to allocate savings with priority to the state and to make public debt service affordable.

  5. The market interest rate involves a wide variety of fixed or variable rates attached to financial instruments in bank deposit and lending markets, money markets and securities markets. The market interest rate is equal to the natural rate in equilibrium only if public authorities refrain from market interventions.


This article builds on research undertaken at Tilburg University, Netherlands (see van Riet, 2018). An earlier version was presented at the Austrian Economics Research Conference, Ludwig von Mises Institute, Auburn, AL, 23–24 March 2018; at the 2nd Annual Madrid Conference on Austrian Economics, Universidad Rey Juan Carlos, 15–16 November 2018; and at the Prague Conference on Political Economy, CEVRO Institute, 26–27 April 2019. Comments and suggestions from Sylvester Eijffinger, Lex Hoogduin, the conference participants and those from an anonymous referee are gratefully acknowledged.


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Published Online: 2019-09-17
Published in Print: 2019-09-25

© 2019 Oldenbourg Wissenschaftsverlag GmbH, Published by De Gruyter Oldenbourg, Berlin/Boston

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