There’s No Such Thing As An ‘Interest Rate’

By the 1920s, Henry Ford’s Ford Motor
F
Company started to run into trouble. Though production enhancements continued to push down the price of the Model T, the problem for Ford was the Model T. It was one car, whereas General Motors
GM
was for instance offering all manner of cars at varying price points in order to meet the needs of buyers of varying stripes. One size fits one, and that was essentially Ford’s problem.

It’s something to think about at the moment. Supposedly credit is more expensive thanks to the Fed allegedly pushing up the cost of credit. You can’t read an article about the economy today without reading about how interest rates are “higher,” or going higher. The problem with this commentary is it presumes uniformity to interest rates of which there is none. There quite simply is no “interest rate.”

To see why, it’s useful to first point out what’s too often forgotten: no one borrows money, nor does anyone lend money. Individuals borrow what money can be exchanged for, and savers lend what money can be exchanged for. Borrowing and lending is about resource exchange.

That it is hopefully gets readers thinking about the impressive stupidity of the conceit about “easy money” or “zero bound” care of the Fed or any other central bank. The Fed that lacks resources can’t provide “easy money” nor can it decree money “cheap” or “costless.” A rate of interest is a market phenomenon, and it’s an exacting one at that. It is precisely because no one is borrowing or lending money. Resources are expensive, and at the same time it has to be stressed that it’s incredibly expensive for savers to lend out resources in blithe or “easy” fashion. That is so owing to the happy truth about compound interest: it’s the most powerful force in saving and investing, and since it is, money is never loaned out in “costless” fashion, nor can the Fed engineer “costless” or “cheap” lending.

From there, it’s useful to stress that in addition to there being no such thing as “costless” credit, there’s also no one interest rate. One size fits one is vivified through the cost of credit. Everyone’s situation is different, which means the cost of credit is different for nearly everyone. Which is why “rising” or “falling” interest rates is such a silly notion. Rising or falling relative to what?

Think the ads for Credit.com. Supposedly a good or bad credit score has a profound impact on the rate applied to any home mortgage which, when you think about it, is a statement of the obvious. As the Credit.com ads make plain, if your score is low you’ll pay a lot more money each month in order to “rent” the money necessary to purchase a house.

When the lockdowns reared their ugly head in 2020, the Fed “slashed” rates to zero. Which was of no consequence for 99.9999% of borrowers. While the Fed operated in Neverland, banks were aggressively shrinking credit availability and credit card access. Yes, the cost of credit increases when people are locked down. And the Fed can’t do anything about it.

What if you have very little credit history, and very little money? Obviously your rate of interest won’t resemble that of someone with a lot of credit history and a lot of money. While Jeff Bezos could walk into any bank right now only to exit with tens of millions wired to him within seconds at a rate of interest well below Fed funds, there’s realistically no rate at which someone light on money and credit history could borrow from a bank.

About the above truth, we have voluminous information from the present that reveals just
just
this. Economists J. Brandon Bolen, Gregory Elliehausen, and Thomas Miller conducted a detailed study on The Predatory Loan Prevention Act that went into effect in Illinois in 2021. The law decreed a 36% ceiling on the rates of interest charged to subprime borrowers in the state. 36%!

Where it gets more interesting, but not surprising, is that the ceiling resulted in a sharp drop in loans made to subprime borrowers in the Land of Lincoln. Well, of course. Interest rates are the price of access to resources, and anything decreed artificially cheap by law will result in scarcity for that which is decreed artificially cheap.

It’s all worth thinking about as commentators lament “higher interest rates” since the Fed began hiking in 2022. In reality, interest rates were already nosebleed for the vast majority of borrowers, while the rate following conducted by the Fed applied to very few borrowers. Which is a bullish indication of markets at work. There’s no one interest rate simply because there’s no one borrower.