Lower ROI because of zero interest rate

Question

I've heard an interview with Bill Gross in which he claims that one of the problems with lower interest rate is that it leads to a lower return on investment (ROI) in the real economy.

How can that be?

Answer 1

Cheap money makes it worthwhile doing stupid things.

Answer 2

It might have to do with the real rate of return. It comes down to the assumption that return on investment is the sum if inflation, say 3%, and the actual return of the project (say 5%). This would total to 8%. If inflation would go down to 1%, the total would drop to 6%. Any additions and/or corrections are welcome.

Answer 3

Let's accept the Fisher equation,

$$r = i-\pi$$

where $r$ is the real interest rate, $i$ is the nominal interest rate, and $\pi$ is inflation.

Let's also accept that the the real interest rate earned on financial capital is the same or co-moves with the ROI, the rate of return on investments in non-financial capital (i.e. in physical and human capital, and or in technology, etc). This we accept at least as a tendency, due to the possibility of arbitrage considerations, if it was otherwise. So let's say

$${\rm Corr}(\text{ROI}, r) = {\rm Corr}(\text{ROI}, i-\pi) \approx 1$$

But the above relation expresses association and co-movement, not causality.

Then, the statement in question, implies that causality may also run from nominal interest rates to the $\text {ROI}$.

With stable inflation, lower nominal interest rates imply lower real interest rates. No effect on $\text {ROI}$ yet. Lower real interest rates will presumably push the holders of funds out of financial capital investment and relatively more into direct investments, for which they will be ok if the $ROI$ is lower than previously, as long as it does not fall below the new lower real interest rate on financial assets.

This is a way to rationalize the statement.