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[Economic Opinion] Investment Under Rate Normalization

Definitely, one of the hottest issues arousing concern in the financial world right now is the rate surge from the U.S. To the surprise of many, the yields for long term treasury bonds have soared since last summer, rendering the yield curve yet steeper than any time in recent memory. The 10-year bond yield more than doubled from 0.60 percent last July 2020, to 1.50 percent in February 2021, and the 30-year yield jumped up from 1.20 percent to 2.3 percent for the same period.

Actually, there are basically two reasons behind this rate episode. One is the worry about inflation. Inflation has been forgotten for some time, especially since the great recession in 2008, but recent volatility in commodity prices have awakened this long dormant ghost all around the globe. Prices of corn, soy bean, copper and nickel rose more than 50 percent year on year, and prices of oil and wheat spiked up more than 30 percent. There have been debates as to why commodity prices have been trembling since last summer. Some have argued that the anticipated global economic recovery after the COVID-19 vaccines has caused increased demand, while others have contended that recent commodity prices just reflect short term market volatilities. Whatever the reason, it is hard to deny that the price and inflation haunt surrounds us.

The other less conspicuous, but more pertinent fact is that many scholars in and around the Fed have warned about the potential financial vulnerability caused by excessively low rates since 2018. Some of these academic reports were published in August 2020, matching the time of the rate spike. It is no secret that some members in the Fed, especially in the FOMC, have long favored the rate hike, manifesting that too low a rate will only feed excessive speculation in the stock markets, and eventually jeopardize financial stability. These so called “the hawkish” have been quite silent under former President Donald Trump, but the situation has changed dramatically with the new Biden administration. Many high ranking officials in the Fed as well as Treasury Secretary Yellen are believed to share the view that rates have been too low, and that the stock markets have been too over heated. Of course, the authorities of the new administration could not explicitly exercise coup de main in the financial markets, but certainly, they will not arbitrarily lower the rates as the Fed under Trump had done.

What it all amounts to say is that a new normal of higher rates have arrived. It is not quite clear how further the rates will surge, but it is certain that they won’t come down. The global economy, especially investment, has to adapt to a higher rate environment. The expected return on investment has become an ever more important factor in making decisions. Maybe it has become more difficult to finance investments in a higher rate world, but it would create a generally enhanced mood in search of the best possible investments. This heightened awareness of sound and profitable investment opportunities is a desirable normalcy that can be expected of this higher rate environment.

By Professor Se Don Shin
Dean, Sookmyung Women’s University

The opinions expressed in this article are the author’s own and do not reflect the views of KOTRA

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