Federal Reserve Interest Rates Should Be Near Zero Forever

[Norman]

If "the natural rate" of interest is 0%, then the market will take it to 0%. Government pinning a 0% rate isn't natural.

The FED controls interest rates all along the term structure. It boils down to how the FED wants to manage yields. This seems perfectly natural under a floating fx.

The Fed influences rates on the long end. They don't control them.

And the ability to influence the long end is related to investors' confidence in the central bank.

Yeah but they can control any rate they so please. Or, well, they can't force anyone to sell bonds of course, but practically speaking that doesn't matter. They can buy ALL the government debt if they so please at whatever rate they want to. Not saying this is a good idea, but that's the reality.

hmm, I guess this doesn't work upwards though... But they can certainly reduce the rates as much as they want. Of course the fed only operates in the secendary market so technically this isn't all correct, but practically speaking now.

 

[Toro]

Dow up 220!

 

[Kimura]

Bill Gross is on CNBC saying the Fed is manipulating asset prices, and PIMCO remains skeptical of the Fed's strategy.

Dow up 160. Hooray for money printing!

Note to Bill Gross: The Treasury doesn't need to get back its own fiat.

I'm still reeling from his now infamous prognostications about the Treasury back in 2011. He want short, then reversed course. Hooray for basing investment strategies like we're still on an fixed exchange/convertible currency!!!! I'm surprised these guys have any clients left. Seriously.

 

[Kimura]

If "the natural rate" of interest is 0%, then the market will take it to 0%. Government pinning a 0% rate isn't natural.

The FED controls interest rates all along the term structure. It boils down to how the FED wants to manage yields. This seems perfectly natural under a floating fx.

The Fed influences rates on the long end. They don't control them.

And the ability to influence the long end is related to investors' confidence in the central bank.

The FED will allow for wiggle room between the IOR and discount rate. That's about it.

 

[Toro]

KA-CHING, bitches!!

 

[Toro]

The FED controls interest rates all along the term structure. It boils down to how the FED wants to manage yields. This seems perfectly natural under a floating fx.

The Fed influences rates on the long end. They don't control them.

And the ability to influence the long end is related to investors' confidence in the central bank.

The FED will allow for wiggle room between the IOR and discount rate. That's about it.

So you're saying it was the Fed's plan all along for the long end to back-up 100 bps when they announced QE3?

 

[Norman]

The natural rate of interest is zero. I still maintain this position. Unless the Treasury steps in to maintain a positive base rate through bond issuance, deficits, in and of themselves, imply a base rate of zero. The FED directly controls short-term interest rates under our fiat system, and there are many valid reasons for setting the overnight rate to zero, which would allow for markets to factor in risk for credit spreads.

The Japanese situation has already demonstrated that this will not result in devaluation or inflation. In point of fact, low rates support growth, productivity, and investments. If rates change, for the most part, they only have micro effects, which can increase employment and output, because it moves aggregate income from savers to working people. The macro effect is zero, because for every dollar which is borrowed in the banking system, there is a dollar saved so to speak.

Could you explain how do you define this "natural interest rate"?

As for 0% interest rates not causing inflation. Well I guess that would depend, but it certainly causes more inflation than higher rates (assuming that the production remains the same, which is a fair assumption in the long run). And that means you can't do as much open market operations. I am not sure whether I would like the banks or the government to have this printed money.

The size of deficits should be viewed from the desirability of the non-government sector to net save in dollars. If the deficit is too small, and unemployment increase, we know that spending wasn’t sufficient to cover the spending gap.

Deficits add to bank reserves and result in reserve surpluses within the banking system. The excess reserves will result in competition in the interbank market for banks looking for better returns than the FED can offer.

It would be more logical not provide for a support rate at all. Under this scenario, net spending will shift the overnight rate to zero since interbank competition can’t remove the surpluses in the banking system. All of these transactions would net to zero, and there wouldn’t any destruction of net financial assets.

If we consider full employment as part of the natural setting, fiscal policy will shift the short-terms interest rates to zero. In the even the FED desires a positive short term rate, it would have two options in its policy tool box: drain the excess reserves by issuing bonds or offer a substantially better rate of return on excess reserves.
Personally, I rather zero rates and no bonds sales. The would put fiscal policy in the driver’s seat where it belongs.

In terms of inflation, $$$$ creation, simply doesn’t result in inflation. Spending, taken in isolation, cannot cause inflation. A continuous rise in the price level is a result of demand outpacing the capacity of the economy to expand through increased production. The only way for this to occur is if government spending outpaces the desire of the non-government sector to save at close to full employment. You then end up in a scenario where energy, materials, and labor are bid up. We can also see inflation result from supply shocks.

We can never prognosticate about inflation by simply looking at $$$$ creation/government spending apart from demand as it pertains to supply.

As incredible as it may sound, I mostly agree with this. Mostly because unemployment just isn't that simple, nor is it always a troublesome thing. Also I would say money creation does cause inflation, because more money = more demand, which causes at least higher prices than otherwise (unless it creates as much production - but that's the kind of thing that's clearly false at least in 99% of cases).

Other than that, as long as inflation was kept under control, I still have to think about whether (mostly) banning open market operations would be optimal or not. It's a fair point for sure though.

I still don't understand how you think the China warehousing dollars could not ever be a problem to the states though. Clearly if they sent that money back; US would have less supply (since china bought it off) and more dollars (that's what they used). The lost supply would be problematic and also the lost supply that US didn't recieve from China as they currently do. The rampant inflation would be what would devastate the economy though, a stable currency is in every economys interests. I think the history with high inflations and the way money has generally emerged show that clearly. To me, it's a clear bubble and given the US' financial situation which even in this bubble is not good at all really, this is kinda troublesome.

Of course I have been saying this for a long time, but the imbalance seems to be getting bigger and bigger, not smaller.

 

[Kimura]

Could you explain how do you define this "natural interest rate"?

As for 0% interest rates not causing inflation. Well I guess that would depend, but it certainly causes more inflation than higher rates (assuming that the production remains the same, which is a fair assumption in the long run). And that means you can't do as much open market operations. I am not sure whether I would like the banks or the government to have this printed money.

The size of deficits should be viewed from the desirability of the non-government sector to net save in dollars. If the deficit is too small, and unemployment increase, we know that spending wasn’t sufficient to cover the spending gap.

Deficits add to bank reserves and result in reserve surpluses within the banking system. The excess reserves will result in competition in the interbank market for banks looking for better returns than the FED can offer.

It would be more logical not provide for a support rate at all. Under this scenario, net spending will shift the overnight rate to zero since interbank competition can’t remove the surpluses in the banking system. All of these transactions would net to zero, and there wouldn’t any destruction of net financial assets.

If we consider full employment as part of the natural setting, fiscal policy will shift the short-terms interest rates to zero. In the even the FED desires a positive short term rate, it would have two options in its policy tool box: drain the excess reserves by issuing bonds or offer a substantially better rate of return on excess reserves.
Personally, I rather zero rates and no bonds sales. The would put fiscal policy in the driver’s seat where it belongs.

In terms of inflation, $$$$ creation, simply doesn’t result in inflation. Spending, taken in isolation, cannot cause inflation. A continuous rise in the price level is a result of demand outpacing the capacity of the economy to expand through increased production. The only way for this to occur is if government spending outpaces the desire of the non-government sector to save at close to full employment. You then end up in a scenario where energy, materials, and labor are bid up. We can also see inflation result from supply shocks.

We can never prognosticate about inflation by simply looking at $$$$ creation/government spending apart from demand as it pertains to supply.

As incredible as it may sound, I mostly agree with this. Mostly because unemployment just isn't that simple, nor is it always a troublesome thing. Also I would say money creation does cause inflation, because more money = more demand, which causes at least higher prices than otherwise (unless it creates as much production - but that's the kind of thing that's clearly false at least in 99% of cases).

Other than that, as long as inflation was kept under control, I still have to think about whether (mostly) banning open market operations would be optimal or not. It's a fair point for sure though.

I still don't understand how you think the China warehousing dollars could not ever be a problem to the states though. Clearly if they sent that money back; US would have less supply (since china bought it off) and more dollars (that's what they used). The lost supply would be problematic and also the lost supply that US didn't recieve from China as they currently do. The rampant inflation would be what would devastate the economy though, a stable currency is in every economys interests. I think the history with high inflations and the way money has generally emerged show that clearly. To me, it's a clear bubble and given the US' financial situation which even in this bubble is not good at all really, this is kinda troublesome.

Of course I have been saying this for a long time, but the imbalance seems to be getting bigger and bigger, not smaller.

China doesn't warehouse dollars in any meaningful capacity, though. US Treasuries are simply dollar deposits at FED when we think about it. All dollars they obtain come from the US. They can obtain them two ways: lending and spending. They prefer the second and go to extraordinary lengths to sell stuff to get dollars.

So they net export, get the $$$$, we get the stuff. All this money ends up at the Bank of China. They want interest so they park $$$$ in Treasuries. This is basically a balance sheet operation for the FED: Chinese reserves are debited and the Treasuries for the Bank of China are credited.

I don't see a problem if the reverse occurs. They exchange Treasuries for reserves. In order to get rid of all their dollar holdings, they would have to purchase real goods and services from Americans.

I'm very doubtful inflation would occur under this scenario. As a matter of fact, the dollar would probably appreciate as Chinese demand for US real, goods, and productive assets would increase.

 

[Kimura]

The Fed influences rates on the long end. They don't control them.

And the ability to influence the long end is related to investors' confidence in the central bank.

The FED will allow for wiggle room between the IOR and discount rate. That's about it.

So you're saying it was the Fed's plan all along for the long end to back-up 100 bps when they announced QE3?

I'm saying the FED has backed itself into a corner with QE by saying it was the greatest thing since sliced bread. Then they got markets hooked on it, and now they want to convince people that there's other ways to handle liquidity without all this QE. They want inflation back at 2%. They will let it increase.

 

[editec]

Its pretty hard to imagine massive inflation as long as working people are losing income and the unemployment numbers remain so very very high.


All those billions never get into the PEOPLE'S ECONOMY, folks.


All those billions did was reconstitite the BANKSTERS.

They'd didn't lend it out so inflation just was not possible.

 

[f252863]

The natural rate of interest is zero. I still maintain this position. Unless the Treasury steps in to maintain a positive base rate through bond issuance, deficits, in and of themselves, imply a base rate of zero. The FED directly controls short-term interest rates under our fiat system, and there are many valid reasons for setting the overnight rate to zero, which would allow for markets to factor in risk for credit spreads.

The Japanese situation has already demonstrated that this will not result in devaluation or inflation. In point of fact, low rates support growth, productivity, and investments. If rates change, for the most part, they only have micro effects, which can increase employment and output, because it moves aggregate income from savers to working people. The macro effect is zero, because for every dollar which is borrowed in the banking system, there is a dollar saved so to speak.

Could you explain how do you define this "natural interest rate"?

As for 0% interest rates not causing inflation. Well I guess that would depend, but it certainly causes more inflation than higher rates (assuming that the production remains the same, which is a fair assumption in the long run). And that means you can't do as much open market operations. I am not sure whether I would like the banks or the government to have this printed money.

The size of deficits should be viewed from the desirability of the non-government sector to net save in dollars. If the deficit is too small, and unemployment increase, we know that spending wasn’t sufficient to cover the spending gap.

Deficits add to bank reserves and result in reserve surpluses within the banking system. The excess reserves will result in competition in the interbank market for banks looking for better returns than the FED can offer.

It would be more logical not provide for a support rate at all. Under this scenario, net spending will shift the overnight rate to zero since interbank competition can’t remove the surpluses in the banking system. All of these transactions would net to zero, and there wouldn’t any destruction of net financial assets.

If we consider full employment as part of the natural setting, fiscal policy will shift the short-terms interest rates to zero. In the even the FED desires a positive short term rate, it would have two options in its policy tool box: drain the excess reserves by issuing bonds or offer a substantially better rate of return on excess reserves.
Personally, I rather zero rates and no bonds sales. The would put fiscal policy in the driver’s seat where it belongs.

In terms of inflation, $$$$ creation, simply doesn’t result in inflation. Spending, taken in isolation, cannot cause inflation. A continuous rise in the price level is a result of demand outpacing the capacity of the economy to expand through increased production. The only way for this to occur is if government spending outpaces the desire of the non-government sector to save at close to full employment. You then end up in a scenario where energy, materials, and labor are bid up. We can also see inflation result from supply shocks.

We can never prognosticate about inflation by simply looking at $$$$ creation/government spending apart from demand as it pertains to supply.

You're looking at just one means of inflation. What about asset classes like equities?

 

[expat_panama]

...China warehousing dollars...

What, like some kind of politburo oriental Uncle Scrooge?

OK, let's put away the comic books and get back to work. So China's got $trillions in Federal T-bills for which they paid dollars that they got from selling their made-in-China stuff for U.S. dollars. The only thing China could ever dump would be the T-bills. They won't.


Wish they would though. I could only dream of scarfing up a stack of T-bills @ $4T face value for say, $37.50...