Interest rates in a deflationary currency

[aaaxn]

I like to add to the discussion that even in a deflationary currency negative interest rates occur. Germany had them last year on their bond offerings.

It was only 'slightly' negative. Nominal interest cannot go much below zero, because you can do arbitrage by just holding cash. Holding cash incur some small cost too and that is why you can get 'slightly' negative nominal rates.

Inflation isn't the only component in interest rates.  Take a CC for example it is 20%+ even in an economy where inflation is ~3%.  Even a mortgage generally run 1% or so higher than the 10 year treasury bond (which rarely current QE fun aside) has negative real interest rates.

Of course you are right. There is also risk of borrower default and it must be factored into interest rate. If you lend to 100 different people and expect 10% to default you need to charge ~10% interest just to cover that loss. That lower bound interest is not affected by inflation/deflation rate (you can't go with interest below expected default rate). What is tricky is that in deflation you actually have more chance for default, because borrower nominal income falls over time.

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[Impaler]

Their is an unabashed moralistic tone on these forums that praise savings as virtuous and noble and thus entitled to great personal gain, the only distinction is most of BTCs windfall is deflationary rather then from interest.  But the same general tone is present when ever I've discussed interest.  Naturally such moralizing dose not appear in dry academic papers that constitute the academic Austrian school core (or at least its subtle), but no one can seriously deny that this belief is rampant amongst the wider non academic Austrian populous.

[Impaler]

Of course you are right. There is also risk of borrower default and it must be factored into interest rate. If you lend to 100 different people and expect 10% to default you need to charge ~10% interest just to cover that loss. That lower bound interest is not affected by inflation/deflation rate (you can't go with interest below expected default rate). What is tricky is that in deflation you actually have more chance for default, because borrower nominal income falls over time.

Your confusing risk premium in an individual loan with core interest rates, risk-free loans such as government bonds still carry interest.

[aaaxn]

Your confusing risk premium in an individual loan with core interest rates, risk-free loans such as government bonds still carry interest.

Were Greece bonds risk-free? Yes they were until they weren't
But serious: interest of individual loans and 'risk free' government bonds are not independent variables. You have opportunity cost for eg. If private sectors are wiling to pay more for capital it also increases government bonds interest.
Anyway I don't see how it is relevant to my post. I was talking about problems of commercial lending market under high deflation.

[anaikh]

Of course you are right. There is also risk of borrower default and it must be factored into interest rate. If you lend to 100 different people and expect 10% to default you need to charge ~10% interest just to cover that loss. That lower bound interest is not affected by inflation/deflation rate (you can't go with interest below expected default rate). What is tricky is that in deflation you actually have more chance for default, because borrower nominal income falls over time.

Your confusing risk premium in an individual loan with core interest rates, risk-free loans such as government bonds still carry interest.

If there is deflation, the cost of interest will be bigger as time passes.
Risk-free loans are backed up by the gov which is considered with the lowest possibility to default.
The gov will repay the old loans by issuing new loans.
In the time of inflation, the cost new loans will be lower if the normial interest rates are the same between old loans and new loans. In the time of deflation, the cost will be higher.

PS: When you thinking about the United States fiscal cliff, you will find the gov's credit is not so good. Without the back up of inflation, I have strong doubt that the gov can pay back the loans in time. Which means, there will be no risk-free loans.

[freedomno1]

Throwing in a few cents,

The real Question is more, how equity increases in bitcoin will affect the currency over deflationary effects although I agree that deflation through lost wallets is a big question mark in bitcoin over time And will definitely affect interest rates
Also may settle an Austrian Economics Vs Keynesian Economic question once and for all (Can Dream XD)
As long as we live though bitcoin will be inflationary
https://en.bitcoin.it/wiki/Controlled_supply


Using the graph chart we can illustrate that
Block   Reward Era    BTC/block    Year    Start BTC    BTC Added    End BTC    BTC Increase    End BTC % of Limit
0   1   50.00   2009   0   2625000   2625000   infinite   12.500%
52500   1   50.00   2010   2625000   2625000   5250000   100.00%   25.000%
105000   1   50.00   2011   5250000   2625000   7875000   50.00%   37.500%
157500   1   50.00   2012   7875000   2625000   10500000   33.33%   50.000%
210000   2   25.00   2013   10500000   1312500   11812500   12.50%   56.250%
262500   2   25.00   2014   11812500   1312500   13125000   11.11%   62.500%
315000   2   25.00   2015   13125000   1312500   14437500   10.00%   68.750%
367500   2   25.00   2016   14437500   1312500   15750000   9.09%   75.000%
420000   3   12.50   2017   15750000   656250   16406250   4.17%   78.125%
472500   3   12.50   2018   16406250   656250   17062500   4.00%   81.250%
525000   3   12.50   2019   17062500   656250   17718750   3.85%   84.375%
577500   3   12.50   2020   17718750   656250   18375000   3.70%   87.500%
630000   4   6.25   2021   18375000   328125   18703125   1.79%   89.063%
682500   4   6.25   2022   18703125   328125   19031250   1.75%   90.625%
735000   4   6.25   2023   19031250   328125   19359375   1.72%   92.188%
787500   4   6.25   2024   19359375   328125   19687500   1.69%   93.750%

Because the monetary base of bitcoins cannot be expanded, the currency would be subject to severe deflation if it becomes widely used. Keynesian economists argue that deflation is bad for an economy because it incentivises individuals and businesses to save money rather than invest in businesses and create jobs. The Austrian school of thought counters this criticism, claiming that as deflation occurs in all stages of production, entrepreneurs who invest benefit from it. As a result, profit ratios tend to stay the same and only their magnitudes change. In other words, in a deflationary environment, goods and services decrease in price, but at the same time the cost for the production of these goods and services tend to decrease proportionally, effectively not affecting profits. Price deflation encourages an increase in hoarding — hence savings — which in turn tends to lower interest rates and increase the incentive for entrepreneurs to invest in projects of longer term.

[malditonuke]

Their is an unabashed moralistic tone on these forums that praise savings as virtuous and noble and thus entitled to great personal gain, the only distinction is most of BTCs windfall is deflationary rather then from interest.  But the same general tone is present when ever I've discussed interest.  Naturally such moralizing dose not appear in dry academic papers that constitute the academic Austrian school core (or at least its subtle), but no one can seriously deny that this belief is rampant amongst the wider non academic Austrian populous.

Well on this thread you're the one banging on the pulpit.

[Impaler]

Well on this thread you're the one banging on the pulpit.

I never said I wasn't, it's myrkul who needs to defend this absurd claim that the rest of 'you' and 'Austrians' broadly are not operating out of a moralistic framework that rationalizes usury by defining the lender as morally virtuous and the borrower as morally flawed.

[melvster]

Of course you are right. There is also risk of borrower default and it must be factored into interest rate. If you lend to 100 different people and expect 10% to default you need to charge ~10% interest just to cover that loss. That lower bound interest is not affected by inflation/deflation rate (you can't go with interest below expected default rate). What is tricky is that in deflation you actually have more chance for default, because borrower nominal income falls over time.

Your confusing risk premium in an individual loan with core interest rates, risk-free loans such as government bonds still carry interest.

govt. bonds are not risk free, there is tail risk

[Impaler]

Because the monetary base of bitcoins cannot be expanded, the currency would be subject to severe deflation if it becomes widely used. Keynesian economists argue that deflation is bad for an economy because it incentivises individuals and businesses to save money rather than invest in businesses and create jobs. The Austrian school of thought counters this criticism, claiming that as deflation occurs in all stages of production, entrepreneurs who invest benefit from it. As a result, profit ratios tend to stay the same and only their magnitudes change. In other words, in a deflationary environment, goods and services decrease in price, but at the same time the cost for the production of these goods and services tend to decrease proportionally, effectively not affecting profits. Price deflation encourages an increase in hoarding — hence savings — which in turn tends to lower interest rates and increase the incentive for entrepreneurs to invest in projects of longer term.

And BTC basically proves the Austrians wrong, the velocity of BTC is terribly low, the interest rates are high, investment is low (the only investment is in more mining equipment) and hoarding is rampant.  If not for the fact that BTC is using USD as a unit of account for virtually every transaction and it's commerce base is largely black-market activity benefiting from the pseudo-anonymous nature of the coin their would be virtually no commerce what so ever.

[melvster]

Throwing in a few cents,

The real Question is more, how equity increases in bitcoin will affect the currency over deflationary effects although I agree that deflation through lost wallets is a big question mark in bitcoin over time And will definitely affect interest rates
Also may settle an Austrian Economics Vs Keynesian Economic question once and for all (Can Dream XD)
As long as we live though bitcoin will be inflationary
https://en.bitcoin.it/wiki/Controlled_supply


Using the graph chart we can illustrate that
Block   Reward Era    BTC/block    Year    Start BTC    BTC Added    End BTC    BTC Increase    End BTC % of Limit
0   1   50.00   2009   0   2625000   2625000   infinite   12.500%
52500   1   50.00   2010   2625000   2625000   5250000   100.00%   25.000%
105000   1   50.00   2011   5250000   2625000   7875000   50.00%   37.500%
157500   1   50.00   2012   7875000   2625000   10500000   33.33%   50.000%
210000   2   25.00   2013   10500000   1312500   11812500   12.50%   56.250%
262500   2   25.00   2014   11812500   1312500   13125000   11.11%   62.500%
315000   2   25.00   2015   13125000   1312500   14437500   10.00%   68.750%
367500   2   25.00   2016   14437500   1312500   15750000   9.09%   75.000%
420000   3   12.50   2017   15750000   656250   16406250   4.17%   78.125%
472500   3   12.50   2018   16406250   656250   17062500   4.00%   81.250%
525000   3   12.50   2019   17062500   656250   17718750   3.85%   84.375%
577500   3   12.50   2020   17718750   656250   18375000   3.70%   87.500%
630000   4   6.25   2021   18375000   328125   18703125   1.79%   89.063%
682500   4   6.25   2022   18703125   328125   19031250   1.75%   90.625%
735000   4   6.25   2023   19031250   328125   19359375   1.72%   92.188%
787500   4   6.25   2024   19359375   328125   19687500   1.69%   93.750%

Because the monetary base of bitcoins cannot be expanded, the currency would be subject to severe deflation if it becomes widely used. Keynesian economists argue that deflation is bad for an economy because it incentivises individuals and businesses to save money rather than invest in businesses and create jobs. The Austrian school of thought counters this criticism, claiming that as deflation occurs in all stages of production, entrepreneurs who invest benefit from it. As a result, profit ratios tend to stay the same and only their magnitudes change. In other words, in a deflationary environment, goods and services decrease in price, but at the same time the cost for the production of these goods and services tend to decrease proportionally, effectively not affecting profits. Price deflation encourages an increase in hoarding — hence savings — which in turn tends to lower interest rates and increase the incentive for entrepreneurs to invest in projects of longer term.

Why do you think the monetary base of bitcoin cannot be expanded?  The protocol may change one day.  Also IOUs in bitcoin off-chain would increase the money supply.

[johnyj]

It's not about inflative or deflative, it's about honest money (generated by today's work) or debt money (generated by future's work, e.g. debt)

Using a honest money, the economy do not necessary need to expand, only when there is a demand. All the investment is using saved money, no debt

Using a debt money, the economy must expand at an exponential rate, all the investment is borrowed from future, that's not sustainable on the physical planet ( might be sustainable in a virtual world)

Bitcoin can also become inflative if all the miners agree to a protocol change, for example, supply increase 3% per year. But even so, it is still very different from fiat money, since fiat money is created without any work, and by only one single entity, and the ownership of those created fiat money belongs to FED

Just like gold mining, create money should be no different than any other type of work. When it is too easy to create money, more people will quit the job and to create money, so that money created by each person will be reduced due to higher competition

[malditonuke]

Well on this thread you're the one banging on the pulpit.

I never said I wasn't, it's myrkul who needs to defend this absurd claim that the rest of 'you' and 'Austrians' broadly are not operating out of a moralistic framework that rationalizes usury by defining the lender as morally virtuous and the borrower as morally flawed.

Economics is value-free.  Borrowers are not "bad" and savers are not "good".  If you want to argue about "usury", do it in the religious section.

[myrkul]

Well on this thread you're the one banging on the pulpit.

I never said I wasn't, it's myrkul who needs to defend this absurd claim that the rest of 'you' and 'Austrians' broadly are not operating out of a moralistic framework that rationalizes usury by defining the lender as morally virtuous and the borrower as morally flawed.

Economics is value-free.  Borrowers are not "bad" and savers are not "good".  If you want to argue about "usury", do it in the religious section.

This.

[freedomno1]

Why do you think the monetary base of bitcoin cannot be expanded?  The protocol may change one day.  Also IOUs in bitcoin off-chain would increase the money supply.

Such a change to the protocol would require a quorum of the community and could not be initiated without their agreement, that said it is possible
Such an example would be known as a Fork an example did occur recently
http://bitcoin.org/chainfork.html
https://en.bitcoin.it/wiki/Myths

Because the monetary base of bitcoins cannot be expanded, the currency would be subject to severe deflation if it becomes widely used. Keynesian economists argue that deflation is bad for an economy because it incentivises individuals and businesses to save money rather than invest in businesses and create jobs. The Austrian school of thought counters this criticism, claiming that as deflation occurs in all stages of production, entrepreneurs who invest benefit from it. As a result, profit ratios tend to stay the same and only their magnitudes change. In other words, in a deflationary environment, goods and services decrease in price, but at the same time the cost for the production of these goods and services tend to decrease proportionally, effectively not affecting profits. Price deflation encourages an increase in hoarding — hence savings — which in turn tends to lower interest rates and increase the incentive for entrepreneurs to invest in projects of longer term.

And BTC basically proves the Austrians wrong, the velocity of BTC is terribly low, the interest rates are high, investment is low (the only investment is in more mining equipment) and hoarding is rampant.  If not for the fact that BTC is using USD as a unit of account for virtually every transaction and it's commerce base is largely black-market activity benefiting from the pseudo-anonymous nature of the coin their would be virtually no commerce what so ever.

It's still too soon to prove that the Keynesians were right in regards to that point, velocity is much higher than what it was even a year ago, and the currency and economy is still developing.
An increase in investment's has caused the currency to keep appreciating even as more units are being created.
Interest rates are high as the growth of the money supply is still 10% a year as explained in the chart.
This question will become more interesting once interest rates stabilize at lower rates.
Hoarding is rampant but increasingly less prevalent we can find proof of this is in bitcoin days destroyed and you can see that the currency is increasingly being spent as more time passes.
Furthermore it is stabalizing big block sales similar to what happened in GOX would have lowered the price by 70% a year ago and increasingly affects it less as more time passes
https://en.bitcoin.it/wiki/Bitcoin_Days_Destroyed
USD is not what bitcoin is backed behind it is in it's own right a globally convertible currency so considering this point incorrect.
Point about commerce being primarily Silk Road is outdated please update your references
https://en.bitcoin.it/wiki/Trade


Inflation is simply a rise of prices over time, which is generally the result of the devaluing of a currency. This is a function of supply and demand. Given the fact that the supply of bitcoins is fixed at a certain amount, unlike fiat money, the only way for inflation to get out of control is for demand to disappear. Temporary inflation is possible with a rapid adoption of Fractional Reserve Banking but will stabilize once a substantial number of the 21 million "hard" bitcoins are stored as reserves by banks.
Given the fact that Bitcoin is a distributed system of currency, if demand were to decrease to almost nothing, the currency would be doomed anyway.
The key point here is that Bitcoin as a currency can't be inflated by any single person or entity, like a government, as there's no way to increase supply past a certain amount.
Indeed, the most likely scenario, as Bitcoin becomes more popular and demand increases, is for the currency to increase in value, or deflate, until demand stabilizes.
To surmise would not say the Austrians are out of this argument by far yet.

[malditonuke]

Well on this thread you're the one banging on the pulpit.

I never said I wasn't, it's myrkul who needs to defend this absurd claim that the rest of 'you' and 'Austrians' broadly are not operating out of a moralistic framework that rationalizes usury by defining the lender as morally virtuous and the borrower as morally flawed.

Economics is value-free.  Borrowers are not "bad" and savers are not "good".  If you want to argue about "usury", do it in the religious section.

This.

Politics would be another appropriate area for debating usury.  Most of the Austrians that he refers to are probably also libertarians, which would justify his confusion.

I could totally see libertarians arguing that saving is good (especially when the discussion involves government).

[niko]

You can't send robots to Mars by basing your endeavor on Ptolemaic model of the universe. You can't use decentralized, limited-supply currency based on archaic concepts of debt money and interest. With the help of Ripple, maybe.

This should not be such a scary thought. Finite, mathematically defined and scheduled supply of currency.

You need money - go earn it. You need something - spend it.

You want to sit on your ass and do nothing, while charging others the interest - go fuck yourself.

You don't want to spend your coins today on something you need, because you expect tomorrow you'll be able to buy more - fine, die an old, poor, sorry idiot with pockets full of coins and empty, shallow, wasted life.

The economy grows - the value of everybody's coins has increased. Perhaps people with archaic btains start spending less, hoping for even more increase in value. The economy shrinks - the value has decreased.  Archaic brains panic spend. It all self adjusts. Those who understand don't care - they live their lives, and use Bitcoin. Everybody in the same boat, plain and fair.

[myrkul]

Politics would be another appropriate area for debating usury.  Most of the Austrians that he refers to are probably also libertarians, which would justify his confusion.

I could totally see libertarians arguing that saving is good (especially when the discussion involves government).

Yeah, he's getting a little mixed up. Personal finance is not national monetary policy. Personal finance, borrowing/saving dichotomy is no big thing. National monetary policy, borrowing/saving becomes a big thing.

You can't send robots to Mars by basing your endeavor on Ptolemaic model of the universe. You can't use decentralized, limited-supply currency based on archaic concepts of debt money and interest.

You know, they charged interest on loans denominated in gold, too. "Debt money" is a relatively new concept.

[Impaler]

Well on this thread you're the one banging on the pulpit.

I never said I wasn't, it's myrkul who needs to defend this absurd claim that the rest of 'you' and 'Austrians' broadly are not operating out of a moralistic framework that rationalizes usury by defining the lender as morally virtuous and the borrower as morally flawed.

Economics is value-free.  Borrowers are not "bad" and savers are not "good".  If you want to argue about "usury", do it in the religious section.

Anyone claiming that their ideology is value free is either ignorant or ashamed of the values it actually carries.  Nothing made by man is free of value judgments, especially economics.  You would have to be the most blindly obtuse person ever born to think that Marx-vs-Adam Smith or hard-vs-soft money or the Keynes-vs-Hayek debates are value-free, it is saturated with value judgments.  These are indeed some of the most pivotal value debates that have existed in the last century.

[myrkul]

Well on this thread you're the one banging on the pulpit.

I never said I wasn't, it's myrkul who needs to defend this absurd claim that the rest of 'you' and 'Austrians' broadly are not operating out of a moralistic framework that rationalizes usury by defining the lender as morally virtuous and the borrower as morally flawed.

Economics is value-free.  Borrowers are not "bad" and savers are not "good".  If you want to argue about "usury", do it in the religious section.

Anyone claiming that their ideology is value free is either ignorant or ashamed of the values it actually carries.  Nothing made by man is free of value judgments, especially economics.  You would have to be the most blindly obtuse person ever born to think that Marx-vs-Adam Smith or hard-vs-soft money or the Keynes-vs-Hayek debates are value-free, it is saturated with value judgments.  These are indeed some of the most pivotal value debates that have existed in the last century.

You're projecting, my friend. Your use of the word "usury" indicates that you make a value judgment on interest, and because Austrian theory provides a valid explanation for why interest happens, you assume that we take the opposite position, and are defending interest. That's absurd. We are explaining it, as a natural part of the economy, the price of money. But because you view it as bad, we who do not agree with you must therefore view it as good. It's not bad, it's not good. It just is.

Now, the interest rate can tell us a great deal about the underlying economy, but only if it is left, like other prices, to float in the marketplace.