Monetary Realism

Understanding The Modern Monetary System…

Negative Real Yields to go Slightly Positive

Bruce Krasting is a the most level-headed example of the bond market hysteria facing the world over the last few days.

“Absent a new move by the Fed to contain long-term interest rates, the ten-year looks like it is headed to 3%. The Chinese are not buying, the banks are full up with paper (and underwater), PIMCO et al are long duration up the wazoo, and any thought that retail interest in five-year bonds at 1% will save the day is just misguided(dumb money is not that dumb).”

Real interest rates in the .7% range are really low historically. Take a look yourself.

Right now, the government is not paying any money after expected inflation to issue 10 year bonds. It’s paying -.29%. I am not sure what needs to be contained at these levels, because they are really low levels. For example, the 10 year could spike to 5% before we’d begin to average in real rates what we averaged through most of the 2000’s.

By paying such a low rate, we’re taking money out of the hands of bond holders and doing nothing with it.

Higher rates might even be good for the economy. A famous book by Marc Lavioe and Wynne Godley has a model where higher interest rates leads to higher employment and a more robust economy.

For example, in the model in Chapter 11, a higher rate of interest produces a paradoxical effect, bringing about a positive impact on output and employment in the long run. Interest payments are treated like a public expenditure, generating a positive multiplier effect, despite the negative short-run impact on business investment.

I don’t have that book yet. It seems like a must read to me. I’d see the higher rates on the back end of the curve as being a good sign, not a bad sign.







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2 Responses

  1. Ramanan says

    I don’t have that book yet. It seems like a must read to me.

    It’s an excellent book but a lot of patience is required because it’s really deep. May I recommend Wynne Godley’s 1983 book “Macroeconomics” with Francis Cripps – work of genius. Only used copies are available but mine looked brand new with the dust jacket in excellent condition.

  2. Brandon says

    An Austrian states since the central bank’s inflation cannot continue indefinitely, it is eventually necessary to let interest rates rise back to the natural rate, which then reveals the underlying unprofitability of the artificially stimulated investments, or malinvestment.

    An oberver MMT would state No, what would happen is that entrepreneurs would realize that interest rates are only temporarily low, and take this into account. Investments made at negative real rate reveals the underlying profitability of the artificially stimulated investments to both public, ad private sector, when a return to normal Positive Real Yields exist, and liquidity is withdrawn.

    Today Negative Real Yields are creating a greater collaspe then the housing crash.

    The Housing Crash is the perfect illustration that, eventual necessary rate increases from the FED will reveal the underlying unprofitability of the artificially stimulated investments. Entrepreneurs did not realize that interest rates were only temporarily low, and take this into account accordingly.

    In a statement by Ron Paul on the House Financial Services Committee, of September 10, 2003.

    “Despite the long-term damage to the economy inflicted by the government’s interference in the housing market, the government’s policy of diverting capital to other uses creates a short-term boom in housing”

    “Like all artificially-created bubbles, the boom in housing prices cannot last forever. When housing prices fall, homeowners will experience difficulty as their equity is wiped out Furthermore, the holders of the mortgage debt will also have a loss. These losses will be greater than they would have otherwise been had government policy not actively encouraged over-investment in housing.”

    “Ironically, by transferring the risk of a widespread mortgage default, the government increases the likelihood of a painful crash in the housing market”

    “This is because the special privileges granted to Fannie and Freddie have distorted the housing market by allowing them to attract capital they could not attract under pure market conditions. As a result, capital is diverted from its most productive use into housing. This reduces the efficacy of the entire market and thus reduces the standard of living of all Americans. Perhaps the Federal Reserve can stave off the day of reckoning by purchasing GSE debt and pumping liquidity into the housing market, but this cannot hold off the inevitable drop in the housing market forever. In fact, postponing the necessary, but painful market corrections will only deepen the inevitable fall”

    “The more people invested in the market, the greater the effects across the economy when the bubble bursts”

    “Mr. Chairman, I would like to once again thank the Financial Services Committee for holding this hearing. I would also like to thank Secretaries Snow and Martinez for their presence here today. I hope today’s hearing sheds light on how special privileges granted to GSEs distort the housing market and endanger American taxpayers. Congress should act to remove taxpayer support from the housing GSEs before the bubble bursts and taxpayers are once again forced to bail out investors who were misled, [or evil] by foolish government interference in the market”