EXCERPTS:
"The Federal Reserve is likely to begin closing a wide-open credit spigot this week—but faces a major decision: when to start draining the excess credit out of the economy by raising interest rates.
Federal Reserve officials on Wednesday are expected to signal that in June they plan to end their controversial strategy of buying $600 billion in U.S. Treasury bonds to spur the economy. That would mark a milestone in the historic efforts by the central bank to stimulate economic growth.
While analysts and investors debate whether the end to the bond-buying effort will have a significant impact on financial markets, the Fed is contemplating when and how to begin draining the credit it pumped into the economy during and after the global financial crisis. That tightening of credit still looks at least several months off, if not longer, and could take a while to unfold.
Most Fed officials, as well as many economists and investors, think the end of the Fed's two major bond-buying efforts—often called "quantitative easing" or dubbed QE and QE2—will pass without any significant disruptions to markets or the economy.
**
Some big investors worry that interest rates will rise when the Fed stops its purchases, which have amounted to 85% of all government debt sold by Treasury since the program started in November.
**
The keys to the timing of the Fed's exit are the health of the U.S. economy and level of inflation. The Fed expects unemployment to remain high and inflation to recede, but both are uncertain right now.
**
Starting essentially last year on Aug. 27—the day Fed Chairman Ben Bernanke laid the groundwork for QE2—investors have flocked to riskier investments. Since Aug. 26 the Standard & Poor's 500-stock index has gained 28%. Smaller, generally riskier stocks have done even better, with the small-company Russell 2000 Index gaining 41%. It stands just 1.15 shy of its all-time high set in 2007.
Corporate bonds have rallied and commodity prices have risen sharply, too. Gold is up 22% since Aug. 26 and silver is up 143%, both hitting nominal record highs. Even subprime mortgage securities, which were largely blamed for causing the financial crisis, are back in demand.
The biggest loser has been the U.S. dollar, the consequence of the Fed essentially printing more of them to buy bonds. The Fed's index of the value of the dollar against a broad basket of currencies is down 7.9% since Aug. 26.
Showing posts with label Interest Rates. Show all posts
Showing posts with label Interest Rates. Show all posts
Tuesday, April 26, 2011
Wednesday, January 5, 2011
Consumer Protection and the Return of the Loan Shark - WSJ.com
EXCERPTS:
"Regulators cannot wish away the need of low-income consumers for credit: If your car's transmission blows, you need $2,000 for repairs to get to work, whether or not you have it saved in the bank (and most low-income Americans don't). If you can't get a credit card, you're going to have to get that money from a payday lender, pawn shop or loan shark.
In a competitive market, regulation of consumer credit has three predictable types of unintended consequences. First, regulation of some terms of the credit contract will result in the repricing of other terms. Thus restrictions on the ability to raise interest rates in response to a change in a borrower's risk profile lead card issuers to raise interest rates on all cardholders, good and bad risks alike.
But even if card issuers reprice some terms, they may still be unable to price risk efficiently under the new rules. This gives rise to a second type of unintended consequence: product substitution. Card issuers can't price risk, so they issue fewer cards—pushing would-be customers to payday lenders and other nontraditional credit products.
Third, if issuers can't price risk effectively, they will ration lending. In order to make a loan, a lender must be able to price its risk efficiently or to reduce risk exposure by rationing credit. One way to do the latter is to lend less to existing borrowers, which is part of the reason why more than $1 trillion in credit-card lines have been slashed since the onset of the credit crunch.
Banks can also drop riskier borrowers completely. In his letter to shareholders last spring, Jamie Dimon of J.P. Morgan Chase reported that, "In the future, we no longer will be offering credit cards to approximately 15% of the customers to whom we currently offer them. This is mostly because we deem them too risky in light of new regulations restricting our ability to make adjustments over time as the client's risk profile changes." Meet the new payday loan customers.
"Regulators cannot wish away the need of low-income consumers for credit: If your car's transmission blows, you need $2,000 for repairs to get to work, whether or not you have it saved in the bank (and most low-income Americans don't). If you can't get a credit card, you're going to have to get that money from a payday lender, pawn shop or loan shark.
In a competitive market, regulation of consumer credit has three predictable types of unintended consequences. First, regulation of some terms of the credit contract will result in the repricing of other terms. Thus restrictions on the ability to raise interest rates in response to a change in a borrower's risk profile lead card issuers to raise interest rates on all cardholders, good and bad risks alike.
But even if card issuers reprice some terms, they may still be unable to price risk efficiently under the new rules. This gives rise to a second type of unintended consequence: product substitution. Card issuers can't price risk, so they issue fewer cards—pushing would-be customers to payday lenders and other nontraditional credit products.
Third, if issuers can't price risk effectively, they will ration lending. In order to make a loan, a lender must be able to price its risk efficiently or to reduce risk exposure by rationing credit. One way to do the latter is to lend less to existing borrowers, which is part of the reason why more than $1 trillion in credit-card lines have been slashed since the onset of the credit crunch.
Banks can also drop riskier borrowers completely. In his letter to shareholders last spring, Jamie Dimon of J.P. Morgan Chase reported that, "In the future, we no longer will be offering credit cards to approximately 15% of the customers to whom we currently offer them. This is mostly because we deem them too risky in light of new regulations restricting our ability to make adjustments over time as the client's risk profile changes." Meet the new payday loan customers.
Tuesday, October 26, 2010
TIPS: Understanding Negative Yields - MarketBeat - WSJ
EXCERPTS:
"We all know interest rates are low, but this is ridiculous.
The Treasury Department had no problem whatsoever selling $10 billion in five-year Treasury Inflation-Protected Securities today at a yield of -0.55%. That’s not a typo: the TIPS bonds sold with a negative yield. First time that’s ever happened.
This suggests investors are so terrified of inflation that they’re willing to pay the government money every year to buy insurance against it.
As with everything in the Treasury market, it’s a little more complicated than that. The negative yield owes partly to the fact that plain-vanilla five-year Treasurys yield just 1.16%, which is barely higher than consumer price inflation for the past year.
The spread between the regular Treasury yield and the negative TIPS yield gets you what investors expect inflation to be in the next five years, and that’s a not-horrifying 1.68%.
Still, yields in both TIPS and Treasurys are low partly because the Federal Reserve is expected to buy a truckload of both as part of its drive to fend of deflation. Investors have front-run the Fed, driving bond prices higher and yields lower, some through the looking glass into negative territory.
If negative TIPS yields represent tremors of inflation anxiety, then the Fed is probably thrilled: Inflation expectations make deflation less likely. But those on deflation watch, including some Fed policy makers, say inflation-adjusted yields on longer-dated bonds are still fairly high given the weakness in the economy. QE2 is still coming, possibly meaning more negative TIPS yields.
"We all know interest rates are low, but this is ridiculous.
The Treasury Department had no problem whatsoever selling $10 billion in five-year Treasury Inflation-Protected Securities today at a yield of -0.55%. That’s not a typo: the TIPS bonds sold with a negative yield. First time that’s ever happened.
This suggests investors are so terrified of inflation that they’re willing to pay the government money every year to buy insurance against it.
As with everything in the Treasury market, it’s a little more complicated than that. The negative yield owes partly to the fact that plain-vanilla five-year Treasurys yield just 1.16%, which is barely higher than consumer price inflation for the past year.
The spread between the regular Treasury yield and the negative TIPS yield gets you what investors expect inflation to be in the next five years, and that’s a not-horrifying 1.68%.
Still, yields in both TIPS and Treasurys are low partly because the Federal Reserve is expected to buy a truckload of both as part of its drive to fend of deflation. Investors have front-run the Fed, driving bond prices higher and yields lower, some through the looking glass into negative territory.
If negative TIPS yields represent tremors of inflation anxiety, then the Fed is probably thrilled: Inflation expectations make deflation less likely. But those on deflation watch, including some Fed policy makers, say inflation-adjusted yields on longer-dated bonds are still fairly high given the weakness in the economy. QE2 is still coming, possibly meaning more negative TIPS yields.
Bernanke Asset Purchases Risk Unleashing 1970s Inflation Genie - Bloomberg
EXCERPTS:
"For the second time since he became chairman in 2006, Ben S. Bernanke is leading the Federal Reserve into uncharted monetary territory.
Bernanke next week is likely to preside over a decision to launch another round of large-scale asset purchases after deploying $1.7 trillion to pull the economy out of the financial crisis, comments from policy makers over the past week indicate. This time, with interest rates already near zero, the Fed will be aiming to increase the rate of inflation and reduce the cost of borrowing in real terms. The goal is to unlock consumer spending and jump-start an economy that’s growing too slowly to push unemployment lower.
Estimates for the ultimate size of the asset-purchase program range from $1 trillion at Bank of America-Merrill Lynch Global Research to $2 trillion at Goldman Sachs Group Inc., with economists at both firms agreeing the Fed will likely start by announcing $500 billion after the Nov. 2-3 meeting. The danger is that once the Fed kindles price increases, inflation will be difficult to control.
“By reducing real interest rates and trying to break the psychology of ‘Why spend today when I can buy goods cheaper tomorrow,’ they are hoping to drive growth that would be more commensurate with a pickup in employment,” said Dan Greenhaus, chief economic strategist at Miller Tabak & Co. in New York. “The risk is a late 1970s type of scenario where the inflation genie gets out of the bottle.”
The U.S. Treasury Department yesterday sold $10 billion of five-year Treasury Inflation Protected Securities at a negative yield for the first time at a U.S. debt auction as investors bet the Fed will be successful in sparking inflation. The securities drew a yield of negative 0.55 percent.
QUESTIONS:
1. How can the yield on a security be negative?
2. What is it about the current economic environment that is causing this yield to be negative right now?
"For the second time since he became chairman in 2006, Ben S. Bernanke is leading the Federal Reserve into uncharted monetary territory.
Bernanke next week is likely to preside over a decision to launch another round of large-scale asset purchases after deploying $1.7 trillion to pull the economy out of the financial crisis, comments from policy makers over the past week indicate. This time, with interest rates already near zero, the Fed will be aiming to increase the rate of inflation and reduce the cost of borrowing in real terms. The goal is to unlock consumer spending and jump-start an economy that’s growing too slowly to push unemployment lower.
Estimates for the ultimate size of the asset-purchase program range from $1 trillion at Bank of America-Merrill Lynch Global Research to $2 trillion at Goldman Sachs Group Inc., with economists at both firms agreeing the Fed will likely start by announcing $500 billion after the Nov. 2-3 meeting. The danger is that once the Fed kindles price increases, inflation will be difficult to control.
“By reducing real interest rates and trying to break the psychology of ‘Why spend today when I can buy goods cheaper tomorrow,’ they are hoping to drive growth that would be more commensurate with a pickup in employment,” said Dan Greenhaus, chief economic strategist at Miller Tabak & Co. in New York. “The risk is a late 1970s type of scenario where the inflation genie gets out of the bottle.”
The U.S. Treasury Department yesterday sold $10 billion of five-year Treasury Inflation Protected Securities at a negative yield for the first time at a U.S. debt auction as investors bet the Fed will be successful in sparking inflation. The securities drew a yield of negative 0.55 percent.
QUESTIONS:
1. How can the yield on a security be negative?
2. What is it about the current economic environment that is causing this yield to be negative right now?
Wednesday, August 11, 2010
Yields Dive as Fed Sets More Buying - WSJ.com
EXCERPTS:
"The Treasury market welcomed the Federal Reserve's plan to shower it with more cash, instantly driving 10-year yields to new 16-month lows. But the response was muted as investors realized that, with rates already so low, the Fed's plan to buy U.S. government debt may have relatively little impact. The key determinant of interest rates for now is likely to be the health, or lack thereof, of the U.S. economy.
The 10-year Treasury note's price jumped nearly a full point in the moments after the Federal Reserve announced its plan to reinvest money that rolls out of its mortgage portfolio into longer-dated Treasury debt. The yield, which moves in the opposite direction of price, fell to 2.779%, the lowest since April 2009, from 2.818% just before the Fed's announcement.
That is good news for many in the economy—the 10-year Treasury yield is a benchmark that affects other rates, including mortgage rates, which also are at historic lows—but investors are beginning to wonder just how much more juice the Fed has to drive rates any lower.
The 10-year yield already has tumbled from about 4% in April as investors flocked to U.S. government debt amid worries about Europe and the durability of the U.S. economic recovery.
"The Treasury market welcomed the Federal Reserve's plan to shower it with more cash, instantly driving 10-year yields to new 16-month lows. But the response was muted as investors realized that, with rates already so low, the Fed's plan to buy U.S. government debt may have relatively little impact. The key determinant of interest rates for now is likely to be the health, or lack thereof, of the U.S. economy.
The 10-year Treasury note's price jumped nearly a full point in the moments after the Federal Reserve announced its plan to reinvest money that rolls out of its mortgage portfolio into longer-dated Treasury debt. The yield, which moves in the opposite direction of price, fell to 2.779%, the lowest since April 2009, from 2.818% just before the Fed's announcement.
That is good news for many in the economy—the 10-year Treasury yield is a benchmark that affects other rates, including mortgage rates, which also are at historic lows—but investors are beginning to wonder just how much more juice the Fed has to drive rates any lower.
The 10-year yield already has tumbled from about 4% in April as investors flocked to U.S. government debt amid worries about Europe and the durability of the U.S. economic recovery.
Tuesday, August 3, 2010
The Living Yield Curve - Investing - Bonds - SmartMoney.com
This link shows how interest rates, as represented by the shape of the yield curve, have changed month by month between March 1977 and the present.
Friday, June 4, 2010
The "Mankiw Rule" for monetary policy
EXCERPT:
"There has been a lot of talk lately about whether the Fed will continue raising interest rates or pause for a while. I don't know the answer, but here is one way to think about it.... I estimated the following simple formula for setting the federal funds rate:
Federal funds rate = 8.5 + 1.4 (Core inflation - Unemployment).
"There has been a lot of talk lately about whether the Fed will continue raising interest rates or pause for a while. I don't know the answer, but here is one way to think about it.... I estimated the following simple formula for setting the federal funds rate:
Federal funds rate = 8.5 + 1.4 (Core inflation - Unemployment).
Saturday, May 15, 2010
Friday, April 16, 2010
Fed Is Expected to Keep Rates Low for Now - WSJ.com
EXCERPTS:
"Federal Reserve officials are likely to end their policy meeting later this month by reiterating that they expect to keep interest rates low for "an extended period"—despite uneasiness among some policy makers that the words limit the Fed's flexibility as the economy improves.
It is expected that central-bank officials will use speeches and interviews to emphasize that their commitment to hold rates near zero depends largely on how the economy behaves.
More-robust consumer spending has made policy makers more confident that a sustainable recovery has taken hold. With unemployment still high, inflation slowing and stable expectations for future inflation, top officials now see little urgent need to start signaling they are near raising rates. But if the outlook shifts, they say their stance will move....
For the Fed, managing expectations is a delicate task, influenced greatly by the words it chooses. Since March 2009, the Fed has said in each post-meeting statement that it expected the economy's performance to justify keeping short-term rates near zero for "an extended period."
The phrase was chosen to encourage investors to buy long-term bonds, which would keep long-term interest rates low, by signaling the Fed wouldn't move for a long time.
Officials now want to make sure the phrase doesn't handcuff them. Some policy makers have become frustrated that the statement is sometimes interpreted as an ironclad commitment to keep rates low for at least an additional six months. But dropping the closely watched words is unappealing, because it could be misinterpreted as a signal that a rate increase is imminent. So officials are looking for ways to underscore that their plans are conditional.
"Everything depends on how the economy performs," James Bullard, president of the Federal Reserve Bank of St. Louis, said in New York on Thursday. Speaking more broadly last week about how the Fed's exit from easy money policies will unfold, Fed governor Daniel Tarullo said, "it seems to me neither necessary nor advisable to decide upon a single game plan that will be announced in advance and rigidly implemented after a decision is made to raise rates."
"Federal Reserve officials are likely to end their policy meeting later this month by reiterating that they expect to keep interest rates low for "an extended period"—despite uneasiness among some policy makers that the words limit the Fed's flexibility as the economy improves.
It is expected that central-bank officials will use speeches and interviews to emphasize that their commitment to hold rates near zero depends largely on how the economy behaves.
More-robust consumer spending has made policy makers more confident that a sustainable recovery has taken hold. With unemployment still high, inflation slowing and stable expectations for future inflation, top officials now see little urgent need to start signaling they are near raising rates. But if the outlook shifts, they say their stance will move....
For the Fed, managing expectations is a delicate task, influenced greatly by the words it chooses. Since March 2009, the Fed has said in each post-meeting statement that it expected the economy's performance to justify keeping short-term rates near zero for "an extended period."
The phrase was chosen to encourage investors to buy long-term bonds, which would keep long-term interest rates low, by signaling the Fed wouldn't move for a long time.
Officials now want to make sure the phrase doesn't handcuff them. Some policy makers have become frustrated that the statement is sometimes interpreted as an ironclad commitment to keep rates low for at least an additional six months. But dropping the closely watched words is unappealing, because it could be misinterpreted as a signal that a rate increase is imminent. So officials are looking for ways to underscore that their plans are conditional.
"Everything depends on how the economy performs," James Bullard, president of the Federal Reserve Bank of St. Louis, said in New York on Thursday. Speaking more broadly last week about how the Fed's exit from easy money policies will unfold, Fed governor Daniel Tarullo said, "it seems to me neither necessary nor advisable to decide upon a single game plan that will be announced in advance and rigidly implemented after a decision is made to raise rates."
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