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The death of the rentier?

Low interest rates have not yet achieved Keynes' dream of euthanising the rentier – but they might do so eventually.
August 20, 2020

John Maynard Keynes’ dream seems to have come true – but it might be a nightmare for many of us.

In his 1936 book, The General Theory, he called for interest rates to be cut so far as to cause a “euthanasia of the rentier”. His call has now been heeded. Not only are nominal rates close to zero, but the gilt market expects them to remain so for years. And real yields on longer-dated gilts are now well below minus 2 per cent.

Far from being killed off by this, however, many rentiers (or asset-owners) have actually done very nicely as decades of falling interest rates have pushed up the prices of property, bonds and gold.

Sometimes, though, it’s better to travel than to arrive. Whilst the journey to zero interest rates has been nice for rentiers, the destination might not be. Stable interest rates, even at a low level, mean stable-ish prices of bonds and gold thus ending the capital gains of recent years. Worse still, if we add a reasonable equity risk premium to long-term real gilt yields of minus 3 per cent, we’ll have near-zero total real returns on equities too.

Which is why Keynes thought permanently low interest rates would kill off the rentier.

But was he right? Rentiers – or if you prefer, investors – have reasons for optimism here.

One lies in the fact that Keynes (like everybody else) was confused about what capital actually is. He hoped that low rates would cause “an increase in the volume of capital until it ceases to be scarce, so that the functionless investor will no longer receive a bonus.” This fails to distinguish between two things. One is the availability of finance. The other is the existing capital stock – both physical and intangible – of existing companies. Even if finance were to be super-abundant, the latter would remain scarce. Even if you or I had the finance, we could not replicate Microsoft or Apple because we could not emulate their brand power, organisational capital and patents. In this important sense, capital remains scarce.

And such scarcity should get an above-average reward. We’d therefore expect companies with monopoly power to continue to make decent returns on capital. It does not automatically follow that today’s shareholders will share in this bonanza; with valuations on many monopoly-type stocks high, future profits might now be more than fully priced in. Even so, Keynes was wrong: zero interest rates do not mean an end to all economic rents, in the sense of rewards for owning scarce assets.

And there are lots of these, as Uppsala University’s Brett Christophers points out. Land, intellectual property, utility networks and access to government are all scarce assets that generate rents for their owners. Rentier capitalism, says Professor Christophers, is thriving.

Even those of us without privileged access to such assets, however, have reasons to hope that prolonged zero rates won’t be so bad. This isn’t just because cheap money can fuel speculative bubbles: the problem with these is that bubbles burst.

Instead, there are better reasons for optimism. To see them. consider why rates are so low.

It’s not because central banks have cut them to “artificially” low levels. If this were the case we’d expect to see booming capital spending and rising inflation – the usual effects of too-loose monetary policy. But even before the pandemic these effects were absent: in both the US and UK, inflation and capital spending were low and flat-lining.

Instead, there are other reasons for low rates.

One, proposed by Ricardo Caballero and the late Emmanuel Farhi, is that there has been a worldwide shortage of safe assets. Savers in the middle east and Asia seeking a safe home for their money have flocked into western bonds.

Another, suggested by Joseph Kopecky and Alan Taylor, is that an ageing population has reduced interest rates and bond yields because older investors prefer bonds and annuities to equities.

Both these theories point to decent returns on equities. If savers want safer assets – be they older folk or global investors needing a safe haven – then by definition they are avoiding equities. Which means returns on these should be high for the braver investor. The counterpart to zero interest rates might therefore be a higher equity premium than normal.

Perhaps, therefore, we’ll not see the euthanasia of the rentier or investor.

Or will we? There’s another possible explanation for low interest rates. It’s that corporate profit rates have been trending downwards for years – and lower returns on physical assets should mean lower returns on financial ones too. Low aggregate profit rates are entirely consistent with a handful of monopolies doing well whilst the mass of ordinary firms struggle. It’s also consistent with two big facts about the US and UK economies – that productivity and capital spending were stagnating even before the pandemic.

If this is the case, then investors do indeed face tough times, as low interest rates are a symptom of a lack of profitable opportunities in the real economy. What investors have to fear, therefore, is not so much the possibility that Keynes was right, but that Marx and Ricardo were.