Continuing the critique from a couple of days ago…
Real interest rates also play a key role in many economic decisions. When businesses invest—or don’t—in plants and equipment, when families buy—or don’t—a new car or dishwasher, they are making judgments about the real return on the object and the real cost of borrowing. As such, real interest rates can be an important guide to monetary policy. As Alan Greenspan once explained,1 keeping the real rate around its equilibrium level (which is determined by economic and financial conditions), has a “stabilizing effect on the economy” and it helps direct production “toward its long-term potential.”
As previously detailed, to know the real rate of interest, you need to know the natural rate of interest. As this is unobservable in a fiat money system, we move to the market rate.
The market rate of interest is based upon savings. Money that is saved in a term deposit. Money that is placed in a demand deposit, are not savings, they are cash holdings.
The government, long ago decided to sanction the banks in illegal activity. They allowed the banks to create money via fractional lending of demand deposits. The direct consequence of this being an alteration of the real rate of interest. The result, the nominal rate of interest.
As the article details, the real rate of interest is the rate of interest required to perform economic decisions. If you use a nominal rate, you will be calculating economic decisions based on faulty data, thus, likely errors will be committed.
