Former Treasury Secretary Larry Summers is probably right to warn the Fed, as he did a week ago in The Washington Post, not to hike interest rates on Thursday. That said, chronically low rates make economists anxious for good reasons: Pension funds, insurance companies, and private investors are desperate for high yields. Keeping rates low means that “secular stagnation”—very limited growth—would be a real concern, because if the global economy’s rate of expansion hovers just over 1 percent for the next 20 years, investments won’t dependably mature at a quick enough rate.
The Fed doesn’t control interest rates, but it can influence them by raising the rate that banks charge each other when transferring money. Economic theory says that if the Fed stimulates the economy too much, by keeping rates too low, it might induce inflation. But, as Summers has noted, this does not seem to be our situation at the moment—the unemployment rate is low enough that wages aren’t increasing, which means prices probably won’t wildly increase either. In Kansas, for example, unemployment has been below 4 percent for years, but wages have been staying put.
But what would be potentially worrying about low interest rates is that the prices of many assets may currently be artificially high, which may constitute the best case for the Fed to gradually raise rates. It’s likely that the assets that pension funds and households tend to invest in are currently overvalued, which is the product of irrational exuberance in the market. Housing prices, for example, are soaring, due to low mortgage rates and even lower gas prices, which can make living in the suburbs more compelling to commuters.