The interest rate the US government pays to borrow money for 10 years fell below 1.4 percent last week. Those are the lowest borrowing costs Washington has faced — ever. This chart from Quartz tells the story:
The falling interest rates of the past decade have surprised a lot of people. When I bought a house a year ago, people told me I should hurry up and close a deal before interest rates rose again. (Mortgage rates and government bond rates are different, but they tend to move up and down together.) Instead, mortgage rates have fallen further.
For almost a decade, people have been predicting that rates would rise soon — even as they kept falling and falling. Many people still assume it’s only a matter of time before rates start drifting back up toward "normal" rates of 6 to 8 percent (for mortgages) and 4 to 6 percent (for government bonds).
But looking at interest rates over a longer time period suggests a different possibility: Today’s interest rates are normal.
Suppose you showed someone a chart of government 10-year borrowing costs from 1800 to 1960 and asked them to project rates in the 2010s. They would probably observe the fairly steady downward trend and predict that rates in the 2010s would be very low — perhaps around 1.5 percent, where they stand today.
The reason people have such a strong intuition that 6 percent interest rates are normal and 1.5 percent interest rates are abnormal is that the human life span is only about 80 years. Few people alive today remember the ultra-low interest rates of the 1940s, and no one today remembers the steadily declining interest rates of the 1800s. But lots of people remember that interest rates were a lot higher than the 1970s, '80s, or '90s, and they’re expecting those high rates to come back.
But there’s good reason to think that the period from 1960 to 2010 was an anomaly driven by the high inflation rates of the period. Bond markets in the 1970s worried that inflation would erode the value of their investments, so they demanded higher interest rates to compensate. But when inflation rates started to fall in the 1980s, interest rates fell too.
And if you think about the big picture, falling interest rates make perfect sense. Like any price, interest rates are driven by supply and demand. And America is getting richer and richer, driving up the supply of capital. So of course the price of capital is going to fall.