Fifty Years of the Price of Money

Every loan is a small bet on the future, and the interest rate is the price of that bet: what it costs to have money now instead of later. When the price is high, people save, companies wait and houses sit unsold. When it is low, the future looks cheap and everyone borrows against it. Over the last fifty years few prices in the American economy have moved as far, or mattered as much, as this one.

This is a long piece on purpose. It walks through half a century of interest rates in eight short sections, with live charts, notes in the margin, two tables and a list of sources at the end. If you only want the shape of the story, the charts tell it on their own.

The price of money

When people say “interest rates,” they usually mean one of three things. The first is the federal funds rate, the rate at which banks lend reserves to each other overnight. The Federal Reserve sets a target for it, and it is the closest thing the economy has to a master dial.¹

The second is the yield on longer government bonds, like the ten-year Treasury note. Nobody sets that one. It is whatever investors demand to lend to the government for a decade, which mostly reflects where they expect short rates to go, plus a little extra for the risk of being wrong.²

The third is the rate households actually feel, such as the thirty-year fixed mortgage rate. It tends to follow the ten-year Treasury yield with a spread on top.

The chart above refreshes itself from FRED², the data service of the Federal Reserve Bank of St. Louis, so it knows about months this paragraph does not. Two things stand out at once: the mountain around 1980, and the long slide that followed it.

The Volcker shock

Inflation in the 1970s came in waves. Prices jumped after the oil embargo of 1973, eased, then jumped again after the Iranian revolution in 1979. Each wave started from a higher floor than the last. By 1980, consumer prices were rising 13.5 percent a year.

Paul Volcker became chair of the Federal Reserve in August 1979. Two months later the Fed changed how it worked: instead of steering the funds rate directly, it would limit the growth of bank reserves and let the rate go wherever that took it.³ Where it took it was up. The funds rate averaged 16.4 percent in 1981, and on some days it went higher still.

Inflation turned out to be easy to let in and painful to get out.

The cost was two recessions back to back, in 1980 and from 1981 to 1982, and unemployment above ten percent for the first time since the Second World War, according to the Bureau of Labor Statistics⁴. The reward was that inflation fell to 3.2 percent by 1983 and, apart from a few bumps, stayed low for almost forty years.

The long slide

From the early 1980s on, each cycle of rate rises peaked lower than the one before. That is the most striking feature of the first chart, and economists still argue about why. Falling inflation is part of it: once people believed the Fed would keep prices stable, lenders stopped demanding compensation for the risk that they would not. The rest is probably slower-moving forces, such as an ageing population saving more, slower productivity growth and a global appetite for safe American assets.⁴

The table averages each decade. Read across a row and you can see how the pieces moved together; read down a column and you can see the slide.

Decade averages of yearly data from FRED (series FEDFUNDS, CPIAUCSL, GS10 and MORTGAGE30US). Mortgage figures start in 1972, when the survey began.

Mortgages followed the same path, which is why the same house could cost a family very different amounts depending on the year they bought it.

Zero

In December 2008, in the middle of the financial crisis, the Fed cut its target to a range of zero to a quarter of a percent. It stayed there for seven years. With the main dial stuck at zero, the Fed reached for others: it bought government bonds and mortgage securities in large amounts, a policy known as quantitative easing, and it began telling markets how long it expected to keep rates low.⁵

Rates rose slowly from the end of 2015 and were cut back to zero in March 2020, when the pandemic shut down much of the economy in a matter of weeks.

The return of inflation

Then inflation came back. Consumer prices rose 8.0 percent in 2022, the fastest pace in four decades. The Fed responded by raising its target from near zero in March 2022 to a range of 5.25 to 5.5 percent by July 2023, the fastest increase since the Volcker years.

Borrowers felt it immediately. A thirty-year mortgage that cost about three percent in 2021 cost closer to seven by 2023, which adds more than half to the monthly payment on the same loan. Many owners with cheap mortgages simply stopped moving, and the number of homes for sale fell with them.

What “real” rates said

The interest rate that matters for decisions is the real rate: the nominal rate minus inflation. In 1981 the funds rate averaged 16.4 percent while prices rose 10.4 percent, a real rate of about 6.0 percent. In 2022 the funds rate averaged 1.7 percent while prices rose 8.0 percent, a real rate of about -6.3 percent. On that measure, policy in 2022 was still very loose even as the Fed raised rates as fast as it ever had.⁶

Who gains when rates move

Every interest payment has two sides, so a change in rates is never good or bad for everyone at once. When rates rise, savers with cash in the bank finally earn something, and retirees living on interest get a raise. People with credit card balances, variable-rate loans or a mortgage still to find pay more.

Americans who already own a home are unusually well protected, because the thirty-year fixed mortgage locks in the rate for the life of the loan. In countries where mortgages reset every few years, such as Britain or Australia, a rate rise reaches household budgets much sooner.⁷

Governments are borrowers too. While rates sat near zero, the Treasury could roll over its debt almost for free. As rates rose, interest became one of the fastest-growing items in the federal budget; by 2024 the government was spending more on interest than on defense, according to the Congressional Budget Office⁶.

Banks sit in the middle, borrowing short from depositors and lending long. That works until short rates rise faster than the long ones. In March 2023 Silicon Valley Bank failed after the bonds it had bought when yields were low lost value, and depositors, many of them start-ups talking to each other, withdrew their money in a matter of hours.

What the yield curve was saying

Usually it costs more to borrow for ten years than for two, so the gap between the two yields is positive. When it turns negative, the yield curve is said to be inverted, and it has turned negative before most American recessions since the 1970s. Markets read it as a bet that short rates will have to fall, and short rates usually fall because the economy weakens.

The inversion that began in the summer of 2022 lasted longer than any before it, and for a long time the recession it seemed to promise did not arrive. That does not mean the signal is broken. It may mean that, after a decade of zero rates, the shape of the curve was telling us as much about the unusual years before it as about the years ahead.⁸

What patience is worth

Strip away the institutions and the interest rate is a simple idea: it is the reward for waiting. At one percent, money left alone takes about seventy years to double. At sixteen percent, about the mortgage rate of 1981, it takes less than five.

That is why changes in this one price ripple so far. When waiting pays well, people wait: they save, delay purchases and demand more from every project. When it pays nothing, they stop waiting and borrow against the future, which is pleasant until the bill arrives.

In the long run we are all dead.

— John Maynard Keynes, A Tract on Monetary Reform (1923)

Keynes meant it as a warning to economists who were content to say things would sort themselves out eventually. Fifty years of interest rates suggest a gentler version: things do sort themselves out, but the run is long, and it matters a great deal which part of it you happen to live through.

Further reading

This piece is part four of a sample series. It follows What GDP Actually Measures, Inflation, One Grocery Bill at a Time and Why Markets Don’t Wait for the Data. For a tour of everything this site can do, see A Field Guide to This Site.

For primary sources, the Federal Reserve publishes the history of its policy decisions⁸, and Freddie Mac publishes its weekly mortgage rate survey⁹.