5 min read

Embracing High Interest as the New Norm. Here's Why.

Henry Hu

Jun, 20, 2024

“The mills of the gods grind slowly”

Greek philosopher ,Sextus Empiricus, ‘ early 3rd century AD’

So why do we have to learn to live in a high interest era? Didn’t it work out just fine in the past 20 years? When we had easy money with low interest rates with no inflation? Let's take a look at why the government and FED must keep interest rates high.

It takes time for the central bank's policy to affect the economy. Action overly hawkish or dovish can lead the economy to the wrong direction. Given the rising geopolitical risk situation. War in Ukraine, conflict between Hamas and Israel, the Red Sea crisis, and the ongoing US-China conflict. There's limited room to be optimistic about the economy. This not only affects the interest rate. As we have all witnessed the rising cost of living in the past few years.

After decades of quantitative easing. Economic growth is constrained by "zombie companies". Companies that rely on easy money to survive. The larger the bubble grows, the more painful it gets when the market crashes. It is shocking that if we take out the “Magnificent Seven” from the S & P 500 index. The remaining 493 companies' stock prices only grew 6%, while “Magnificent Seven” had a 71% increase in 2023. (An upcoming article will explore this topic in greater detail.)

The United States has many reasons to attract capital buying treasury bonds. Government spending, debt repayment, and maintaining the dominant status of the USD all require funding. This has put the Dollar in a challenging position. High interest rates could mean losses for holders of treasury bonds with lower yields before rate hikes. Rapid changes in interest rate will impact market confidence in the U.S. Treasury bonds.

The U.S. spends more in gross interest payments on its debt than on national defense, at a time when America's military strength is especially crucial with increased tensions in the Middle East, the Russian invasion of Ukraine and China's continued threats toward Taiwan.
U.S. Secretary of the Treasury Janet Yellen also highlighted the importance of fiscal responsibility, telling lawmakers during a hearing before the House Financial Services Committee, "It's critically important that the U.S. be on a fiscally sustainable path.”

While US Treasury bonds remain among the safest assets in financial markets. Recent auctions have revealed a lack of interest from foreign buyers worldwide. Not only are long-term US Treasury bonds (10 years and above) struggling to find buyers, but medium-term bonds (2-10 years) are facing similar issues. This limited demand leaves little flexibility for the US Treasury Department. The Federal Reserve might need to step in as a last resort by purchasing the remaining bonds. Which could lead to further currency devaluation and potential rises in inflation rates. Investors must prepare for alternative options due to the challenges these bonds may face in the future.