Friday, May 21, 2010

Setting the yield curve to zero

I recommend reading the comment thread on this post over at Nick Rowe's for my conversation with RSJ. I'm not an academic economist and therefore have no emotional or psychological investment in their models, so I view Nick's original question as omphalitic (and yes, that may not be a word, but I'm trying to be kind).

RSJ had excellent points about how you could operationalize the flat MMT yield curve (short answer -- you cannot; you can just set FFR to zero and stop issuing bonds) but then followed-up by saying the distinction between a currency issuer and a currency user is "stupid" because it leads to all manner of bad decisions.

I cannot think of anything more fundamental and useful than recognizing and understanding this distinction, and I think we're seeing the bad decisions that come from not understanding it.


Blogger Tom Hickey said...

Thanks for the heads up. I had abandoned that thread some time ago, but I see that some interesting points have come up since then.

Also glad to see that you have added comments.

8:19 PM  
Blogger STF said...

Yes, thanks, as I didn't see that. I would dispute some details of RSJ's interpretation of the MMT view of that debate. And JKH took the MMT side, BTW.

Scott Fullwiler

9:54 AM  
Blogger winterspeak said...


Didn't see JKH pitching in on that discussion. Would love to see what he thought.

I'm not sure that RSJ was not on the MMT "side" though -- I think he was just pointing out that bonds aren't consumption goods and therefore, if the Govt isn't the marginal buyer AND the marginal seller, you cannot manipulate quantity to set price.

I've been thinking about this some more, and at longer durations I don't think this is true. There's a distribution of inflation expectations etc., and therefore a distribution of willingness to pay at the long end of the yield curve. This creates a demand curve with a slope, and quantity impacts supply again.

That said, there's also a secondary market for these things, so even if the above were true, the Fed would still need to be active, buying and selling, to maintain whatever price target it had at that duration.

Frankly though, does it may any sense to offer a 1 yr, 10 yr, 20 yr note all at zero%? Best to just eliminate bond issuance altogether.

10:32 AM  
Blogger STF said...

Regarding Billy Blog, the discussion is here--

On the yield curve, my views are in line with ESM's comments at Mosler:

"I think Warren was trying to account for risk premia in his catch all phrase “supply technicals.” I can vouch for the fact that out to 18 mths, the yield curve is completely driven by expectations of the short rate as set by the Fed. A risk premium really starts to kick in around 2 years, but the curve out to 10 years is mostly driven by reference to rates for shorter maturities. So the Fed really does have quite a bit of power to nail down the yield curve."

"Between 10 and 20 years, things become very technical because liquidity in the Treasury market is not good in that range of maturitied. Beyond 20 years, convexity effects kick in, so projections of market volatility are incorporated into the rates at these maturities (this is why the curve tends to become negatively sloped beyond 25 years or so)."

"The Fed does not have a lot of power to determine 30 year rates, but I can guarantee you that if the short rate is 25bps, there are quite a few bond traders who will find a 30-year bond at 5% yield pretty attractive. The positive carry on a leveraged position is hard to resist."

Scott Fullwiler

12:01 PM  
Blogger winterspeak said...


RSJ, for reasons I don't understand, doesn't think the currency issuer/user distinction is helpful or important.

You'll notice in those posts, he talks about "household" sector, which I sometimes misread as "private" or "non-govt" sector -- because who really cares about households when discussing sector flows?

Nevertheless, I do think that (at least my) original interpretation of "set the yield curve to zero" is not operationally possible.

7:56 AM  

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