Online Extra: A World of Influence on Interest Rates

Remember when what happened in Asia and Europe left U.S. rates virtually untouched? Oh, how times have changed. Here's how

The game has changed for investors. At one time, the prime influences on U.S. interest rates were internal: Fed policy, the U.S. budget deficit, the credit demands of American consumers and businesses. But in a world with a global savings glut, investors have to use a much broader perspective. Just as events in Washington or San Francisco can affect interest rates, so can happenings in Shanghai or Frankfurt.

Many investors find the new global connections more difficult to understand than the old domestic links. So here's a guide to how global and domestic events used to influence interest rates -- and what the impact will be today.

An increase in the trade deficit

Previously: Indicated greater downward pressure on the dollar, eventually resulting in more inflation and higher interest rates.

Today: In a world with a global savings glut, an increase in the U.S. trade deficit won't have much effect on interest rates. Because one country's deficit is another one's surplus, an increased trade deficit doesn't change the global supply and demand of savings. It may make the dollar somewhat less valuable but probably won't affect interest rates.

An increase in the U.S. federal budget deficit

Previously: Boosted long-term interest rates.

Today: With capital markets truly global, a rise in the U.S. budget deficit will have much less effect on interest rates.

An increase in oil prices

Previously: Raised inflation in the U.S. while also slowing the economy -- sometimes with a net result of pushing interest rates up or down.

Today: By transferring resources from oil-consuming nations to oil-producers, a rise in oil prices will make the global savings glut worse. Since the key oil producers, such as Saudi Arabia, can't make good use of such a flood of billions, the money will be sent back to the global financial markets for reinvestment in the rest of the world.

Faster economic growth in Europe and Japan

Previously: Negligible.

Today: Acceleration in European and Japanese growth can push up interest rates. However, attaining faster growth requires a pickup in domestic demand, rather than just an increase in exports from these countries.

Changes in China's growth rate

Previously: Negligible

Today: The issue isn't the speed of China's growth but rather whether China's internal consumption will finally start catching up with the country's productive capability. If it does, China will have lower net savings to send to the world, the Chinese trade surplus will fall, and U.S. interest rates will rise.

Financial crisis in China

Previously: Negligible

Today: A financial crisis will probably send investors looking for safe havens, such as the U.S., hence sending its rates down. Of course, over the long term, it's also possible that a financial crisis might undercut the ability of Chinese businesses to keep building new factories. That would slow down the growth rate of Chinese production, undercutting one of the main forces behind the global savings glut -- and eventually increasing interest rates.

Faster job growth in the U.S.

Previously: More jobs and lower unemployment signified an economy close to capacity and resulted in upward pressure on inflation and interest rates.

Today: Despite an unemployment rate near 5%, real wages are barely rising. It may be that, with an excess of capital and labor, the world economy would have sufficient excess capacity to hold wages and interest rates down, even as the job market tightens some more.

Fall in U.S. home prices

Previously: Lowered consumption because Americans could no longer draw on home equity. That would increase savings and decrease interest rates.

Today: A sharp fall in U.S. home prices would send some of that global savings looking for other outlets. Potentially there could be an increase in spending on technology by both consumers and businesses.

An increase in interest rates by the Federal Reserve

Previously: Knocked bond prices lower and pushed long-term rates higher as investors adjusted their positions to the dearer cost of money.

Today: In a world awash with savings, the impact of Fed rate increases on the bond market could be rendered less important by other factors such as foreign purchases of U.S. Treasury securities

By Michael Mandel in New York

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