What Is Financial Repression?

Financial repression refers to a set of government policies that direct funds from the private sector to the public sector to help reduce national debt. In periods of financial repression, savers lose wealth, while those with high debt levels benefit from the erosion of their debt burdens. This is because the rate of inflation typically exceeds the rate of return on savings.

Just as with businesses and individuals, governments sometimes use debt to fund their expenditures. When a government’s debt is too high to repay by raising taxes or cutting spending, it often resorts to policy measures that move funds from the broader economy to the public sector. These measures allow governments to finance their spending and manage debt repayment more effectively, without defaulting.

Methods of Financial Repression

There are several indirect policies that direct funds from the private sector to the public sector to help reduce national debt. At a high level, these policies disadvantage savers and enrich the government. These include:

• Interest Rate Caps: The Federal Reserve influences interest rates across the economy. Keeping nominal interest rates low, often below the inflation rate, reduces the real return on savings and makes borrowing cheaper for the government. Quantitative Easing is one way to suppress interest rates. More direct policies such as Yield Curve Control artificially prevent interest rates from rising above a set level.
• Regulatory Requirements: Financial institutions may be required to hold government bonds or other approved assets, suppressing interest rates and subsidizing government spending.
• Capital Controls: In extreme cases, governments may restrict the flow of wealth across borders, preventing citizens from investing in better-returning assets abroad and limiting their ability to avoid financial repression. As shown in the chart below, thirty-one countries accounting for over 40% of the world’s population have implemented capital controls since the year 2000.
• Directing Credit: Governments may steer savings towards preferred sectors through directives or incentives.

Impacts of Financial Repression

What does financial repression mean for you and the economy? Here are some effects to consider:

• Reduced Real Returns: During financial repression, savers receive lower returns on their investments, which might discourage saving and drive investors to seek higher yields through riskier assets. This results in numerous negative consequences for the average person; retirement and large purchases become more difficult to achieve, certainty about one’s financial future is reduced, and quality of life is diminished.
• Debt Reduction: Inflation and low interest rates can reduce government debt levels, which might also lower debt for businesses and individuals. Taken in isolation, debt reduction may be a good thing. However, financial repression does not improve a government’s fiscal responsibility. Only budget reform can improve a country’s long-term ability to reliably pay back its debt.
• Wealth Redistribution: Financial repression acts as a transfer of wealth from savers to borrowers, including the government, by reducing the real value of savings. Those who stay out of debt by building up savings are harmed, as the value of their savings diminishes with inflation. Meanwhile, those with large amounts of debt benefit, as the value of their debt burden diminishes with inflation.
• Low Economic Growth: By distorting interest rates, economic growth can be hindered by diverting funds from potentially more productive private investments to government debt.

Financial Repression After World War II

At the end of World War II, the United States faced high debt levels from wartime spending. At the war’s conclusion, public debt to GDP was 112%.

In 1942, the Federal Reserve helped the U.S. Treasury reduce the government’s debt burden by placing a cap on interest rates across the yield curve. As a result, between 1945 and 1980 real returns were less than 1% for two-thirds of the time. By 1980, federal government debt as a percentage of GDP fell to 30%.

Do We Have Financial Repression in the U.S. Today?

The U.S. Government faces an increasingly high debt burden, now exceeding 120% of GDP. It has become increasingly unlikely that the federal government will be able to pay back its debt without relying on various forms of financial repression.

Since 2010, the Federal Funds Rate, which is set by the Federal Reserve, has been below the rate of inflation more than 80% of the time, as shown in the chart below.