A fall would seem reasonable since expectations concerning future inflation in our economy and the world economy have become far more stable, thus reducing the inflation risk premium. 9 But it seems unlikely that this is the whole explanation. Two theories are often invoked to explain the low real interest rates in recent years: The saving glut theory and the liquidity glut theory. The saving glut theory posits that some countries for various reasons have very high propensities to save 10 and lack sufficient domestic investment opportunities. Current account surpluses, particularly in Asian countries and oil-exporting countries, have increased the world’s total savings, thereby exerting downward pressure on long-term interest rates to bring capital markets back into balance. 11 In this case, low real interest rates globally can be understood as a natural response to the preferences of welfare-maximising economic agents. For a given country, these interest rates might seem uncomfortably low, but monetary policy-makers’ scope for influencing this is limited. Alternatively, or additionally, low long-term real interest rates can be seen as a consequence of excessive liquidity creation. Central banks may have fuelled the markets with low shortterm rates and very generous supplies of liquidity to prop up growth or to keep inflation from falling below target. But financial intermediaries also create liquidity. 12 As financial markets in  8  Kenneth S. Rogoff (2006): ”Impact of globalisation on monetary policy”, A symposium sponsored by Federal Reserve Bank of Kansas City, Jackson Hole, Wyoming.

The links between countries today are even stronger and broader than was the case 100 years ago. The number of countries taking part in the global exchange of goods and capital has soared. China, India, Russia and many other emerging markets have during the past twenty years opened their borders and embraced capitalist reforms. The economic world has become larger. What we have seen is, to use the words of Federal Reserve Chairman Ben  BIS Review 14/2008  1  Bernanke, “a wave of worldwide economic integration and increased economic interdependence”. 1 Economic developments the past 15 years have been extremely favourable. Inflation has generally been low and stable. At the same time, compared to the 1970s and 1980s economic growth has been higher and recessions shallower. Better monetary policy and a firm nominal anchor are in my view vital factors behind this “great moderation”. But intensified competition and increasingly deeper and more integrated markets for goods, services, capital and labour have also contributed to containing inflationary pressures and to making economies more resilient to shocks. Even more importantly, globalisation and a better economic framework have lifted hundreds of millions out of poverty, an achievement that far surpasses anything development aid has ever accomplished. In his book “The age of turbulence”, former Federal Reserve Chairman Alan Greenspan states that “…we are living in a new world – the world of a global capitalist economy that is vastly more flexible, resilient, open, self-correcting, and fast-changing than it was even a quarter century earlier.