Fed Launches QE3

[bigrebnc1775]

Because the first two were so successful. What makes anyone think our problem is high interest rates?
Fed Pulls Trigger, to Buy Mortgages in Effort to Lower Rates - Yahoo! Finance

This time it's different obama means business 40 billion a month and counting.

 

[DSGE]

Defaults increase during a recession.

Sure, but real yields and expected inflation also fall. So... I don't think there's a way to expect which effect will be stronger, so I wouldn't expect anything about the direction high yields will move.

Similarly, US stocks are near their all-time highs. That usually doesn't happen when Treasuries are rallying because of a fear of an economic slowdown. Normally, high yield and stocks sell off when the market is discounting a slow down.

"All time high"? It doesn't make sense to say that since a) it's a nominal price and b) it grows over time at some non-zero rate anyway. That's like saying "GDP is at an all time high. The economy mustn't be all that bad". The stock market is roughly where it was before the recession. Being in the same place it was five years ago isn't impressive.

So it's possible for stocks to be at the level they are now but there still being the expectation of lower productivity of capital in the future; hell it can still go up even further if the outlook for the labour market improves. Also there may well have been a shock to the rate of time preference keeping real interest rates down.

I've been doing this for nearly 20 years. Stocks and high yield bonds don't go up when the economy is slowing and Treasuries are hitting highs. Stocks and high yield bonds will begin to rally before it becomes obvious that the economy is turning, but it is a contradiction to say that Treasury bonds are rising because of a slowing economy with high yield bonds and stocks rallying. That's not how markets work.

You didn't really actually address anything I said. I challenged the idea that "stocks are high" and you just kind of ignored it. I then explained how stocks could be rising but real rates falling because there's still considerable slack in the labour market (and so plenty of real growth to catch up on, but long run productivity problems), and again you kind of ignored the substance of it. You know it takes time for me to think about and construct those posts; am I wasting my time?

 

[DSGE]

I'm still unsure why you think the Fed buying long bonds doesn't affect the price.

Because I think you're assuming a downward sloping demand curve, which doesn't hold.

Here, think about this:

We've hit the zero lower bound. The FFR is down to zero and so is the yield on 3 month T-bills. If the Fed suddenly buys half of all the 3 month T-bills, does that push their yield further down? Can the Fed lower 3 month T-bill rates as negative as they like just by purchasing more and more?

Yes, we've had brief periods when t-bills yielded less than zero. But the 10 year isn't at zero.

Right, so we agree that there isn't a downward sloping demand curve for 3 month T-bills? The yield on them can't be lowered by the Fed buying more?

Halfway there. Demand curves don't always slope downwards. Here the demand curve is horizontal.

Now what determines the yield on longer Treasuries? The sum of expected short-term rates (the term structure) plus risk premia (default risk and liquidity risk are around zero anyway for Treasuries) plus term premia.

So when the FFR isn't at the ZLB, lowering it changes the term structure, and so changes yields all along the curve. When the FFR is at the ZLB, it can't be lowered any further since the demand for short term T bills becomes horizontal, and demand becomes horizontal all along the yield curve too.

So buying long T-securities (without changing forward guidance) doesn't lower their yield because what have you changed? You haven't changed the term structure. You haven't changed risk premia. You haven't changed term premia. You've changed none of the things which determine the yield on a long bond.

The only way to change the yield is to guide expectations about the future path of the fed funds rate, changing the term structure.

 

[The Rabbi]

Because the first two were so successful. What makes anyone think our problem is high interest rates?
Fed Pulls Trigger, to Buy Mortgages in Effort to Lower Rates - Yahoo! Finance

It's tricky to know how far this 'sugar rush' will take the markets before the big crash. After more than 35 years of investing, I've got to say my adrenaline rush for riding this house of cards is at an all-time high. The last crash was fairly easy to predict, but not this one. It's like I'm surfing on a tsunami!

I can't believe the discussion on this thread. Almost nearly every post is a tacit admission that the Fed, a privately owned banking cartel, is in collusion with other private banking monopolies to manipulate the world economy.

Reading this whole thread is like one big argument for getting rid of this corrupt system. Sure, if you are wise you know how to get obscenely wealthy off of this system, I mean, that is why the political, cultural, and financial elites instituted the system in the first place; to institutionalize a sort of modern day caste system among the upper class, and upper-middle classes.

What the hell ever happened to the good 'ol notion of a meritocracy? This system is destroying the nation and the world since it abandoned the constitution and congress gave up it's power to regulate the money supply. It's immoral, evil, and antithetical to freedom.

It's just the Zionist conspiracy in action, dontchaknow?

 

[Toro]

Sure, but real yields and expected inflation also fall. So... I don't think there's a way to expect which effect will be stronger, so I wouldn't expect anything about the direction high yields will move.



"All time high"? It doesn't make sense to say that since a) it's a nominal price and b) it grows over time at some non-zero rate anyway. That's like saying "GDP is at an all time high. The economy mustn't be all that bad". The stock market is roughly where it was before the recession. Being in the same place it was five years ago isn't impressive.

So it's possible for stocks to be at the level they are now but there still being the expectation of lower productivity of capital in the future; hell it can still go up even further if the outlook for the labour market improves. Also there may well have been a shock to the rate of time preference keeping real interest rates down.

I've been doing this for nearly 20 years. Stocks and high yield bonds don't go up when the economy is slowing and Treasuries are hitting highs. Stocks and high yield bonds will begin to rally before it becomes obvious that the economy is turning, but it is a contradiction to say that Treasury bonds are rising because of a slowing economy with high yield bonds and stocks rallying. That's not how markets work.

You didn't really actually address anything I said. I challenged the idea that "stocks are high" and you just kind of ignored it. I then explained how stocks could be rising but real rates falling because there's still considerable slack in the labour market (and so plenty of real growth to catch up on, but long run productivity problems), and again you kind of ignored the substance of it. You know it takes time for me to think about and construct those posts; am I wasting my time?

It isn't so much the level as the direction. Stocks are going up. That contradicts the argument Treasuries are rallying because the economy is slowing, or at least Treasuries are rallying for reasons having nothing to do with the Fed. The economy slowing is partly a reason why Treasury yields are low but it doesn't explain all of it.

I disagree on productivity problems, but lower productivity should mean lower stock prices, not higher. Negative yields can certainly be positive, but again, ask why they're negative. Risk premia has not gone away. Thus, negative nominal 10 year yields include the risk premia, implying significant economic contraction IF you believed the market is efficient AND the Fed has no influence on the long end. No way, no how do I or the market believe in prolonged negative growth. So, if that's the case, something is out of whack - either the market is highly inefficient or there is something else going on, ie QE, or some combination of both. The stock market rising, HY rates falling and negative real yields on the long end for months on end is not typical market behavior. But it makes perfect sense if you have a central bank that is buying boatloads of securities to support the market, which is what central banks are doing.

 

[expat_panama]

...I'm claiming that QE doesn't lower yields on long bonds...

When the fed sells long bonds it makes yields go up. The fed buying long bonds lowers rates. Some call it QE, some call it 'bailout' but adults call it 'supply and demand'.

Actually, adults check that... ...the childishly simplified version ... ...we learn in high school ... ... Maybe go back and read some....

Sorry, I thought we all understood clearly that you're one of us 'adults'. Just the same your excitement is still appropriate because economic well-being is in fact a very passionate subject. So let's direct all this energy to the issue.

...The subject which started this, if I recall, was whether or not the Fed can control long Treasury rates with QE...

--and we can all agree that the Fed can't control markets in their totality. Markets are trades, and the fed controls its trades. Market long term rates are by definition lowered when the Fed makes long term loans at lower rates.

 

[Toro]

Because I think you're assuming a downward sloping demand curve, which doesn't hold.

Here, think about this:

We've hit the zero lower bound. The FFR is down to zero and so is the yield on 3 month T-bills. If the Fed suddenly buys half of all the 3 month T-bills, does that push their yield further down? Can the Fed lower 3 month T-bill rates as negative as they like just by purchasing more and more?

Yes, we've had brief periods when t-bills yielded less than zero. But the 10 year isn't at zero.

Right, so we agree that there isn't a downward sloping demand curve for 3 month T-bills? The yield on them can't be lowered by the Fed buying more?

Halfway there. Demand curves don't always slope downwards. Here the demand curve is horizontal.

Now what determines the yield on longer Treasuries? The sum of expected short-term rates (the term structure) plus risk premia (default risk and liquidity risk are around zero anyway for Treasuries) plus term premia.

So when the FFR isn't at the ZLB, lowering it changes the term structure, and so changes yields all along the curve. When the FFR is at the ZLB, it can't be lowered any further since the demand for short term T bills becomes horizontal, and demand becomes horizontal all along the yield curve too.

So buying long T-securities (without changing forward guidance) doesn't lower their yield because what have you changed? You haven't changed the term structure. You haven't changed risk premia. You haven't changed term premia. You've changed none of the things which determine the yield on a long bond.

The only way to change the yield is to guide expectations about the future path of the fed funds rate, changing the term structure.

You're saying that buying and selling doesn't affect price, and instead are using a theoretical construct on how bond prices should act all the time. I would agree that your construct is fairly accurate over the long run. But the market does not always behave like that in the short or even intermediate term. So when you say "these premia don't change," that is incorrect. Investors are not automatrons. They change because investors aren't always looking at them in the way economists do.

I'd caution using economic models to describe asset markets all of the time. I remember having conversations with economists during the tech and housing bubbles who said they weren't bubbles because that's what their models told them. I still can't believe that.

 

[thereisnospoon]

Hey Toro and DSGE?..Please let us know when you two are through with your Financial Times private circle jerk.
The fact is, printing fake money to pump up the stock markets for a short period of time is no only foolish and stupid, it shows the long standing liberal tradition of repeating the same actions with the expectation of a different result.
The first two QE's were temporary fixes.
Bernanke has really done it this time...Forty billion a month for ever..Thanks you ******* prick.

 

[Stone]

Here's what happens when the Fed buys mortgage backed securities. The American taxpayer will receive $40 billion a month in worthless securities. The holders of the mortgage backed securities will receive $40 billion a month in cash. The only thing that will be stimulated is the wallets of men who made bad investment decisions in the first place by purchasing mortgage backed securities.

The Fed actions represent the classic wealth transfer.