Extreme debt is rewriting the rules of economics

Why it matters: While economic orthodoxy holds that high levels of debt lead to higher interest rates, that correlation — like many others — is unraveling in the post-financial-crisis era.

• "Many commentators might suggest that interest rates are low because central banks have made them low," David Page, senior economist at AXA Investment Managers, tells Axios. "Actually, it's the other way around. Central banks have had to lower rates as much as they have because the natural rate of interest has fallen" as a result of the growing debt.

The big picture: Over the past 10 years the money supply has increased significantly and wealthy businesses have used the wellspring of free cash to buy back shares and acquire rivals to inflate their stock price and reward executives.

But real wage growth has been flat in developed countries and largely capped in developing nations. That has meant a growing number of people have to take on more debt to finance the increasing cost of middle class necessities like a mortgage, medical bills and college tuition.

• Both the increase in debt and lower interest rates "are symptoms of grander issues such as slowing population growth, an aging population and therefore an easing of economic growth rates," says Lou Brien, rates strategist at DRW Trading.

What it means for the market: The traditional tools of monetary policy by central banks no longer function as they once did.

• "Central banks have cut interest rates in many places to 0% or negative levels and the economies are not accelerating," Robert Tipp, chief investment strategist at PGIM Fixed Income, tells Axios.
• "Why are people not borrowing money at zero? Either they don't have anything to do with it or they are overly indebted."

The increased debt also means it takes lower interest rates to slow the economy. With a mountain of debt already accumulated, few can afford the 4% or 5% interest rates of the past, AXA's Page says.

• This may explain the Fed's current pause and perhaps the market's expectations for rate cuts, even though the U.S. overnight interest rate is well below its historical average.