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Irwin Kellner
April 20, 2010, 12:01 a.m. EDT · Recommend · Post:
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By Irwin Kellner, MarketWatch
PORT WASHINGTON, N.Y. (MarketWatch) -- The recent run up in bond yields is telling us that the era of low interest rates is drawing to a close.
It may be true that the Federal Reserve is keeping short-term rates at historic lows. The key overnight federal funds rate has remained at or close to zero since the end of 2008.
It is also likely that the Fed will maintain this rate until it is certain that the nascent upturn has morphed into a full-fledged recovery and is unlikely to turn down again, creating a double-dip recession. ( See last week's column.)
However, it is also correct to say that these rates don't affect borrowers as much as they do savers. Those fortunate enough to be able to squirrel away a few dollars in the bank find that they are getting little or no interest on their money. ( See my column of Feb. 9, 2010.)
Borrowing rates tend to be keyed off long-term rates, such as the yield on the bellwether 10-year Treasury. These rates have been moving up for almost a year and a half.
As a consequence, rates have risen on a wide variety of loans, ranging from home mortgages, to automobile loans, to credit cards -- even business loans. If these rates go much higher, it could trigger the double-dip referred to above.
That said, it is reasonable to ask the why have long-term interest rates gone up and how much higher are they likely to go?
One reason for the rise stems from the interaction of supply and demand.
On the supply side, Washington's humongous budget deficit is naturally causing the Treasury to issue boatloads of securities to finance it. And as you can imagine, the widely-publicized outlook for deficits as far as the eye can see has caused bond buyers to demand a higher return.
At the same time, a number of companies are also rushing to raise cash -- if for no other reason than to roll over some of their short-term debt. The uptick in economic activity since the middle of last year is another reason why businesses need funds.
On the demand side, foreigners, previously big buyers of U.S. debt, are not buying as much as they used to, since they have decided that they hold too many Treasurys and have begun to diversify. This is occurring as the Fed's purchases of long Treasurys and Agencies have been phased out, thus further reducing demand.
There are other reasons for the rise in long rates.
One is fear that inflation will flare up. This stems from all the liquidity that the Fed has already injected into the financial system. ( See my column of Jan. 5, 2019.) Last week, the Treasury-TIPS spread hit its highest level since the middle of 2008, according to data provided by the Federal Reserve Bank of St. Louis.
Another reason traces to expectations by the bond markets that the Fed will soon let short rates rise, since long rates theoretically forecast where short rates will be sometime down the road.
As for how much higher long rates are likely to rise, it all depends on the degree to which this upturn can withstand the impact of higher rates.
If they cause a double-dip, rates won't rise a lot. If the economy can withstand higher rates now, it will likely take a dive later on.
As they say on the street, "You pays me now or you pays me later."
Irwin Kellner is MarketWatch's chief economist.
Irwin Kellner, MarketWatch's chief economist since 1998, writes a weekly column on the economy and the financial markets. He has been a leading economist for more than 40 years and previously served as chief economist for North Fork Bank, Chase, Chemical and Manufacturers Hanover. Widely quoted by the media in the U.S. and abroad, Kellner regularly addresses groups of business people and community leaders and appears regularly on Cablevision's News 12 Long Island.
Citigroup Inc.'s surprising first quarter profit is sure to lift spirits both in Wall Street and Washington, but a closer look suggests that inside the company there are two stories, writes David Weidner.
2:51 p.m. April 19, 2010 | Comments: 19
- AmericanPatriot | 11:20 p.m. April 19, 2010
"Irwin Kellner: Era of low interest rates is drawing to a close http://bit.ly/agMYD0" 11:44 p.m. EDT, April 19, 2010 from MktwKellner
"Irwin Kellner: The NBER hasn't said the recession's over http://bit.ly/b1e3l7" 11:49 p.m. EDT, April 12, 2010 from MktwKellner
"Irwin Kellner: Mr. President, it's later than you think http://bit.ly/dq1ckI" 11:44 p.m. EDT, April 5, 2010 from MktwKellner
"Irwin Kellner: Four ways to reduce the deficit http://bit.ly/9l3L7O" 11:33 p.m. EDT, March 29, 2010 from MktwKellner
"Irwin Kellner: Where have all the buyers gone? http://bit.ly/b817cd" 12:25 a.m. EDT, March 23, 2010 from MktwKellner
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