[FreeHugs]

Increasing the interest rate is supposed to fight inflation.

I often wonder if that really works.

When the risk-free rate rises, doesn't that mean the opposite? That _more_ money will be printed?

When the government says "You give me $100 and I'll give you back more later" - where is this "more" coming from? Isn't it just more debt that will be paid back with more printed money?

[pavlov]

You can look at Turkey, which has chosen to fight inflation by lowering interest rates. Turkey’s president is an autocrat who can make this kind of decision unilaterally and his economic beliefs run counter to the mainstream, so it makes for a fascinating experiment. He’s been lowering rates for two years, from 18% to 8.5%.

The results so far seem to support the economist orthodoxy: inflation in Turkey has ran up to 80% compared to a historical average of about 20% (which was roughly in line with the interest rate when Erdogan started his rate-decrease project.)

[FreeHugs]

But was it the lower interest rate that caused the inflation or the printing of money?

Over what time did the inflation rate go up from 20% to 80% and by what percentage did the money supply change during that time?

[pavlov]

I'm certainly not any kind of expert on Turkey's economy. I'll just link to graphs that show the effects, someone smarter can debate the cause and effect.

The rate cuts in Turkey began in September 2021:

https://tradingeconomics.com/turkey/interest-rate

The inflation rate soared from 20% to over 80% soon afterwards:

https://tradingeconomics.com/turkey/inflation-cpi

It's now stabilized to "only" 55% because of decreased energy price pressures, apparently.

The M2 money supply in Turkish liras is climbing, but not in the same proportion as the rate cuts and inflation:

https://tradingeconomics.com/turkey/money-supply-m2

Turkey has also been spending its foreign currency reserves to prop up the lira. They've experimented with extraordinary measures like a government guarantee to protect Turkish account holders against currency depreciation, in an effort to make people keep liras in banks rather than hard currency:

https://www.kcl.ac.uk/news/supporting-the-turkish-lira-asses...

So Erdogan's Turkey is an interesting basket case all around — one for future economics textbooks maybe.

[FreeHugs]

    The M2 money supply in Turkish liras is climbing,
    but not in the same proportion as the rate cuts and inflation

Not? It looks like the money supply doubled over the last 12 months.

Does it really need an expert on Turkey's economy to see a relation between the doubling of an asset and the asset being worth half as much afterwards?

[pavlov]

There are many other factors like the foreign exchange reserves of Turkey and its commercial banks, which have been depleting.

Consider a case where a Turkish bank held two billion euros in 2021. They exchange half of it for liras in 2022 and receive N billion liras. A year later and after 80% inflation, they exchange the other half for liras and receive 1.8*N billion liras. That's not the government printing money to fund its spending, yet the money supply is increasing just like you'd see on the graph.

Like I wrote in my previous reply, Turkey has a unique program where it guarantees local currency deposits against hard currency exchange rate losses. That's meant to attract deposits and will obviously increase the money supply when locals trade their dollars/euros for liras — but it's not exactly "money printing", rather a completely new layer of risk for the central bank (and the losses may have to be offset by printing money eventually, but importantly that wouldn't show up yet in the graph we're looking at).

[FreeHugs]

What does it mean when you say the turkish bank exchanged their Euros for Liras? Where did the Euros go, where did the Liras come from?

[misja111]

> When the government says "You give me $100 and I'll give you back more later"

No it's the other way around. The FED rate is the rate for which the FED will lend you money. The government borrows money by writing out government bonds, which' yield (rate) is determined by the market. Every time the FED lends someone money, it basically prints it. Higher interest rates will cause fewer people to borrow money -> less money is printed -> inflation goes down. At least that's how it works in theory.

[TheOtherHobbes]

The theory completes ignores the fact that inflation is driven by two things: external supply shocks and corporate profiteering. There's some catch-up from wage inflation later, but it's a reaction to higher prices not a driver of them.

Tinkering with the money supply is like repainting your house when it's on fire. If your house is unstable it's not because it's the wrong colour. It's because the foundations need underpinning and perhaps a redesign.

[dsfyu404ed]

>The theory completes ignores the fact that inflation is driven by two things: external supply shocks and corporate profiteering.

Citation please for this supposed "fact".

The accepted wisdom is that inflation is driven by the size of the money supply and the velocity of the money.

[throw0101b]

> Every time the FED lends someone money, it basically prints it.

It is the commercial/retail banks that create money through credit:

> Most of the money in the economy is created, not by printing presses at the central bank, but by banks when they provide loans.

* https://www.bankofengland.co.uk/explainers/how-is-money-crea...

* https://www.bankofengland.co.uk/quarterly-bulletin/2014/q1/m...

While central bank reserve rates do have impact, there are countries have have no reserve requirements (UK/England being one of them).

The transmission mechanism of monetary policy is… complicated:

* https://www.ecb.europa.eu/mopo/intro/transmission/html/index...

* https://www.chicagofed.org/publications/working-papers/2012/...

[bogomipz]

No, this is not correct. The term "Fed Rate" is not correct or meaningful either. There are two different things - the Fed Funds Rate and the Discount Rate(also known as the Discount Window.) The Fed Funds Rate is "the rate" being discussed when the Fed raises interest rates[1][2]. The Fed Funds Rate is the interest rates banks charge each other to borrow money overnight to meet their Federal Reserve requirements. When it becomes more expensive for banks to borrow money from each other to meet their overnight Federal Reserve requirements it makes credit more expensive for both the banks and the consumers of a bank's loan products.

Banks can also borrow directly from the Federal Reserve via a facility called the discount window or Fed Discount rate[1]. Banks for a long time have avoided borrowing directly from the Fed as it has had something of stigma attached to it.[3] That has changed recently however(2007-2008.) The Discount Rate is always more than the Fed Funds Rate.

>"Every time the FED lends someone money, it basically prints it."

This is not correct either. The Fed maintains a balance sheet with assets and liabilities similar to a corporation [4]. One of those assets is money they have lent to other financial institutions. They do this by crediting or debiting the bank's account at the Fed. You seem to be confusing the Discount Rate with Quantitative Easing.

[1] https://www.investopedia.com/terms/f/federalfundsrate.asp

[2] https://www.investopedia.com/terms/f/federal_discount_rate.a...

[3] https://www.federalreserve.gov/econres/notes/feds-notes/stig...

[4] https://www.investopedia.com/terms/f/fed-balance-sheet.asp

[flandish]

Does this rate not also cause personal mortgages to rise, due to the increase? This effects monthly payments, on already agreed contracts, which makes homeowners struggle, no?

[jandrewrogers]

In the US almost all mortgages are fixed rate, so the monthly payments don't change. The interest rate does not change for the life of the mortgage, often 30 years. Because a mortgage can be refinanced, this causes a downward ratchet on interest rates for mortgages over time. This is one of the ways in which a mortgage is a hedge against inflation and rising costs. There are tens of millions of Americans with a mortgage rate in the 2.5-3.5% range because the mortgages pre-date the current rise in interest rates.

What this does impact is the ability of people to move houses, since a new mortgage would be priced to current market conditions.

[FreeHugs]

The FED lends someone money? Whom do they lend money?

[the_mitsuhiko]

Commercial banks.

[FreeHugs]

Really? I have never heard about the process of banks lending money from the FED.

Do you have a link where this process is described?

[the_mitsuhiko]

https://en.wikipedia.org/wiki/Discount_window

[cowbolt]

My understanding is that increasing the interest rate causes capital to be more likely to seek low-risk guaranteed returns. The effect of this is to disincentivize investments and economic activity in general, as capital is more likely to be "parked" in risk-free debt, rather than seeking other ways of reaching high yield. The unintuitive aspect of it is how inflation could reach 2% when capital has a guaranteed, risk-free way of generating 5%+ yield. But I suppose that could be explained by examining the growing economic inequality of the past 30+ years.

[FreeHugs]

But the "high yield" investments are a zero-sum game. They don't create new money. If you invest in a company and the company is successful, your return is not printed. It comes from the pockets of the companies customers.

The risk-free returns on government bonds are risk free because the government never goes bankrupt. Because it simply prints the money it needs.

[naveen99]

When you start a company and a vc gives you a million dollars at a $10 million valuation, 1 million is real, the other 9 just got printed.

When you do labor, you print money. When you take out a loan and commit your future labor to paying interest, you are printing money (converting labor to money)

[FreeHugs]

Not by the definition of money I am using when I refer to "the money supply" or the term "printing money".

I am referring to sum of money the FED has created.

[naveen99]

There is always two sides to money. The fed pays government workers, the other side is the worker’s labor. Fed buys bonds, the other side is the bond. Fed sells a bond, it destroys the money it receives back. fed buys gold, the other side is the gold. the other side is as much responsible for the money creation as the fed. Fed doesn’t unilaterally create money.

[throw0101b]

> I often wonder if that really works.

Ask Volcker:

* https://en.wikipedia.org/wiki/Early_1980s_recession_in_the_U...

* https://en.wikipedia.org/wiki/Paul_Volcker#Chairman_of_the_F...

[naveen99]

Money is printed every time a commercial bank makes a loan.

Money is destroyed when government sells treasuries.

If you buy treasuries you aren’t using it to buy goods and services.

When bank buys your debt, you spend the money on goods and services.

[joachimma]

There are still those that take a loan, they will need to pay the higher interest. As long as there is a balance there will not need to be money printed.

[FreeHugs]

One can take a loan from the government?

[moondistance]

It takes many years and higher rates relative to inflation. Based on precedent, we are going to be in this inflationary period for some time.

[Scarblac]

No, the debt will be paid back with borrowed money.

[FreeHugs]

If it is borrowed from the FED, then it is still paid back with printed money.