Question

Q: Summarize below article in 5 to 7 lines. (Long Term interest rate)

Managing Risks Associated with the Future Course of Long-Term Interest Rates-

As I noted when I began my remarks, one reason to focus on the timing and pace of a possible increase in long-term rates is that these outcomes may have implications for financial stability. Commentators have raised two broad concerns surrounding the outlook for long-term rates. To oversimplify, the first risk is that rates will remain low, and the second is that they will not. In particular, in an environment of persistently low returns, incentives may grow for some investors to engage in an unsafe “reach for yield” either through excessive use of leverage or through other forms of risk-taking. My Board colleague Jeremy Stein recently discussed how this behavior may arise in some financial markets, including credit markets.14Alternatively, we face a risk that longer-term rates will rise sharply at some point, imposing capital losses on holders of fixed-income instruments, including financial institutions. Of course, the two risks may very well be mutually reinforcing: Taking on duration risk is one way investors may reach for yield, and the losses resulting from a sharp rise in longer-term rates will be greater if investors have done so.15One might argue that the right response to these risks is to tighten monetary policy, raising long-term interest rates with the aim of forestalling any undesirable buildup of risk. I hope my discussion this evening has convinced you that, at least in economic circumstances of the sort that prevail today, such an approach could be quite costly and might well be counterproductive from the standpoint of promoting financial stability. Long-term interest rates in the major industrial countries are low for good reason: Inflation is low and stable and, given expectations of weak growth, expected real short rates are low. Premature rate increases would carry a high risk of short-circuiting the recovery, possibly leading--ironically enough--to an even longer period of low long-term rates. Only a strong economy can deliver persistently high real returns to savers and investors, and the economies of the major industrial countries are still in the recovery phase. So how can financial stability concerns--which the Federal Reserve takes very seriously--be addressed? Our strategy, undertaken in cooperation with other regulators and central banks, has a number of elements.

Answer 1

Long term interest rates have a pertinent role in determining financial stability. However, there are two major implications of having rates that are either too low or not, for investors especially since investing is an activity that is dependent on the duration which determines the risk of the investment.

If the rates are too low then investors would engage in leveraging higher amounts in the hopes of a high yield. If the rates rise sharply then holders of fixed asset instruments face losses. Low long term interest rates are desirable in major industrial countries as it depicts the health of the economy as inflation being low especially since most of the major economies are in their recovery phase.