(MENAFN) According to Max Gillman, a professor of Economic History at the University of Missouri-St. Louis, the United States should promptly initiate a reduction in interest rates due to the crisis prevailing in the country's commercial real estate market, which is exacerbated by high rates. Gillman points to recent actions taken by central banks worldwide as evidence supporting his stance. He underscores the unique circumstances surrounding the US interest rate monetary policy and current inflation rates.
Reflecting on historical events, Gillman recalls that following the September 11, 2001 terrorist attacks, the US spearheaded efforts to drive down interest rates below the inflation rate. However, the Federal Reserve swiftly responded by increasing interest rates from 2004 to 2006, as inflation steadily rose to around 5 percent from near zero levels.
Gillman emphasizes the repercussions of this sudden interest rate hike, especially after three years of negative "real interest rates," defined as the interest rate minus the inflation rate, which represents the real return on capital after adjusting for inflation. The abrupt increase in interest rates led to investment banks facing insolvency as they held mortgage-backed securitized (MBS) loans that defaulted.
Gillman emphasized: "The MBS were viewed as being a safer better investment than short-term US Treasury debt, which had negative real yields.
"But the sudden Fed increase caught homeowners off guard, since they had taken out variable rate home loans for 3 years at initially very low interest rates."
Max Gillman asserts that the swift escalation in interest rates, particularly concerning variable rate mortgage loans, resulted in homeowners struggling to meet their mortgage obligations. This predicament led to a wave of personal bankruptcies and widespread defaults on mortgage-backed securities (MBS) held within the global financial system. Gillman suggests that the Federal Reserve's decision to raise interest rates too rapidly played a pivotal role in precipitating the collapse of MBS and ultimately contributed to the banking crisis of 2008, characterized by the demise of investment banks.
In Gillman's analysis, the sequence of events highlights the interconnectedness of monetary policy decisions, financial markets, and the broader economy.
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