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What is a “low interest rate policy”?

Summary:
Turkey’s President Erdogan is probably the world’s most famous proponent of NeoFisherism, the view that low interest rate policies are disinflationary and high interest rates policies are inflationary. Academic NeoFisherians, however, would presumably be horrified by the approach he has taken to implement this idea.  This FT article is from a month ago: Turkey’s central bank has defied warnings from the business world and opposition parties by slashing its main interest rate despite rising inflation and an ailing currency. . . .The Turkish president, whose view that high interest rates lead to inflation runs counter to established economic orthodoxy, has increasingly meddled in monetary policy as he consolidates his control over the Turkish state. He has pushed

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Turkey’s President Erdogan is probably the world’s most famous proponent of NeoFisherism, the view that low interest rate policies are disinflationary and high interest rates policies are inflationary. Academic NeoFisherians, however, would presumably be horrified by the approach he has taken to implement this idea.  This FT article is from a month ago:

Turkey’s central bank has defied warnings from the business world and opposition parties by slashing its main interest rate despite rising inflation and an ailing currency. . . .

The Turkish president, whose view that high interest rates lead to inflation runs counter to established economic orthodoxy, has increasingly meddled in monetary policy as he consolidates his control over the Turkish state. He has pushed for rate cuts even at the cost of soaring inflation and turmoil in the financial markets.

What is a “low interest rate policy”?

So how is the new policy working out?  A more recent FT article shows that the lira has now plunged even lower:


The Turkish lira suffered a historic retreat after President Recep Tayyip Erdogan praised a recent interest rate cut and declared that his country was fighting an “economic war of independence”.

The currency, which is down more than 40 per cent against the dollar this year, plunged as much as 15 per cent on Tuesday — a drop that eclipsed even Turkey’s currency crisis of 2018 — and broke through the symbolic threshold of 13 to the dollar after Erdogan used a combative speech to expound his vision for the country’s economy.

This doesn’t mean that NeoFisherism is wrong (although I do believe it is wrong).  After all, despite these rate cuts Turkey still has both high nominal interest rates and high inflation, the exact correlation predicted by NeoFisherians.  Erdogan’s mistake was in not understanding that interest rates can fall due to either an easy money policy or a tight money policy.  He made the mistake of trying to cut rates with an easy money policy, and now Turkey is paying the price with high inflation. 

In other words, he confused correlation with causation. 

Scott Sumner
Scott B. Sumner is Research Fellow at the Independent Institute, the Director of the Program on Monetary Policy at the Mercatus Center at George Mason University and an economist who teaches at Bentley University in Waltham, Massachusetts. His economics blog, The Money Illusion, popularized the idea of nominal GDP targeting, which says that the Fed should target nominal GDP—i.e., real GDP growth plus the rate of inflation—to better "induce the correct level of business investment". In May 2012, Chicago Fed President Charles L. Evans became the first sitting member of the Federal Open Market Committee (FOMC) to endorse the idea.

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