Letters

Interest rates

EDITORS: I refer to the January 1980 issue of Illinois Issues, page 30 ("Legislative Action"): "Carter's higher 13.5 percent interest rate. . . ."

I would agree that politics is a factor in establishing monetary policy, the Federal Reserve System being a creation of Congress which, by constitutional terms, has the authority to establish the value of money. Nevertheless, in a free economy, as opposed to state socialism, interest rates are established by money market conditions, not by politicians.

Fundamentally, interest rates represent the exchange rate for liquid assets, or money. In order to exchange, we must have, as the Internal Revenue Service phrases it, "a willing seller and an uncoerced buyer." If interest is the price paid for the use of money, then the existence of an aggregate rate for money (or as some say, its rent) is a rate set by all those willing and uncoerced buyers.

When the Federal Reserve System withdraws money from circulation by selling treasury debt (otherwise called "securities"), interest rates rise only if the people are willing to pay them. There is nothing in our legal code which compels people to pay a high rate of interest. They do it quite willingly, as any lender knows, if they want something badly enough and have no money to pay for it. You cannot, therefore, make President Carter responsible for high interest. The Federal Reserve under political pressure to reduce the rate of inflation has to withdraw money from circulation. This causes bankers to demand more for the use of the money since they have less of it to lend. The hope of the government is that people will refuse to borrow. Since the people are continuing to buy in spite of high interest, one presumably can only raise interest until they stop borrowing.

When people take on too much debt at too high of a rate, they become illiquid and they refuse to buy. After this pyschological condition came into being in the 1930's, it took 10 years and World War II to change mass psychology. Banks failed in large numbers, and interest rates disappeared for bank depositors. Bankers just let the money pile up — useless.

Neither Hoover nor Roosevelt could do anything about it. Neither can President Carter do anything to change the basic underlying forces. What the government at any time can do is create so much money that it becomes absolutely worthless, and then they can start the whole inflationary process over again.

In 1923, the German government wiped all debt out of existence by the simple expediency of printing $1 trillion fiat marks to pay off each mark under a gold standard. They then reversed the process and replaced the depreciated marks with one "new mark." No one had any trouble paying off a mortgage. But they also lost all their savings. Would you want your government today to do this?

Richard H. Ebel
Belleville

March 1980/Illinois Issues/11