Hopefully, when you clicked this title, you weren't talking about having "no interest" in this website. Nonetheless, even if you do, that's completely fine as this is a topic that possibly everyone can relate to - the status of interest rates in this pandemic. Economics students will know of a variety of uses of interest rates and non-economics students will know its basic function on "savings" and "loans". For this article, I will be talking about interest rates as a "signal" that represents economic activity and stakeholders' behaviour. Of course in a fundamental sense, banks charge interest rates and these are compounded and added to the money in the bank (savings accounts) or the loan that needs to be paid back. So how is it a signal then? Well, it is important we understand how interest rates are set to begin with (which includes a link with the money market mentioned in the IS-LM model). From an applications point of view, the central bank sets interest rates which the commercial bank adheres to or exceeds. This interest rate is dependent on the demand to hold money and the money supply set by the commercial bank, and when the supply increases, the interest rates will go in the opposite direction by decreasing (look at the diagram on the IS-LM page to understand why). However, how does the money supply "change" to being with? Is money just a printable commodity that the central bank prints and then gives to a set of businesses for it to increase in supply in the economy? Well, actually it is slightly more complicated than that. In the COVID-19 pandemic, the money supply in economies of many rich nations increased, and this is because those nations underwent an informal form of monetary policy known as "quantitative easing". Quantitative easing can be displayed by a simple flowchart (on pc/laptop version only):
As this flowchart clearly explains, this is the "quantitative easing" method of increasing the money supply. This is what many rich nations have been enacting, in order to increase the money supply of the nation, and as a result, decrease interest rates. This is because a decrease in interest rates, makes borrowing (and thus, consumption and investment) more attractive, thereby, resulting in economic expansion. However, why is this title called 'NO interest?', what does the "no" refer to. Well, this is a very important point. It actually talks about the concept of a liquidity trap, and how rich nations, like the USA and the UK are approaching it (where the interest rate is 0) in this pandemic period. John Maynard Keynes, one of the most revolutionising Economists known to present date, theorized a liquidity trap as 'after the rate of interest has fallen to a certain level, liquidity-preference may become virtually absolute in the sense that almost everyone prefers cash to holding a debt which yields so low a rate of interest. In this event the monetary authority would have lost effective control over the rate of interest'. What Keynes is really saying is that demand to hold money as cash (or liquidity preference) - as it is inversely proportional to the rate of interest - gets to a point where it is perfectly elastic (interest-elastic): the demand will not be further affected by any change in the rate of interest. A horizontal line in the liqudity preference function denotes this and however many changes in money supply there are, there will be no change or distortion in the interest rate. The logical reason behind this is because one would much prefer holding the cash than saving or investing it with negligible interest rate (practically 0), and even if the money supply increases, there will be no change in this preference either. You think for yourself, what is the benefit of keeping money in a savings account with a 0% interest rate? The second point that Keynes noted was the monetary authorities (notably, the Central Bank) would have no control over the rate of interest. This is proven by the fact that an increase in money supply will not change the interest of a perfectly elastic liquidity preference function. So what can the central bank do? (Because the economy needs to stablise and cannot jus have 0 interest). Well, the central bank does nothing, in fact, the government needs to step in with a fiscal policy, and like every other aspect in this subject, there is a logical reason for this too. This diagram shows the effect of fiscal policy on an economy undergoing a liquidity trap (in the IS-LM form, so make sure you understand this model first).
An economy is at the zero lower bound (ZLB) when the interest rate is at or near zero. During this time, the LM curve (which represents the money market) has a horizontal portion indicating that there will be no change in interest rates. The liquidity trap is problematic as even an expansionary monetary policy (LM to LM1) will not increase the real output (Y remains the same when this change takes place). Therefore, for economic growth to occur, there must be an increase in the IS curve (from IS to IS1) and this can occur from a fiscal supplement or any form of an expansionary fiscal policy. The same applies to the interest rates, to get this to increase again, there must be a large shift in the IS curve, which is sometimes caused by a heavy fiscal supplement (like the one the USA has enacted). During this pandemic, many developed nations have enacted both fiscal supplements (high government expenditure levels) and quantitative easing (and are approaching a liquidity trap. So with all these clashing economic aspects, only time can really tell, for when the interest rates will pick up again and how long it will remain "zero".
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