The Revenge Of The Bond Market

“I used to think if there was reincarnation, I wanted to come back as the President or the Pope or a 0.400 baseball hitter. But now I want to come back as the bond market. You can intimidate anybody,” said James Carville at the start of Bill Clinton’s Presidency in 1993. Since that time, the bond market has been in the position of an abused spouse, suffering endless humiliations at the hands of an inept Fed and Treasury Department. In the last few weeks however there have been signs that it was about to reassert itself. Should it do so, it would be immensely salutary – and immensely painful.

The yield on the 30-year Treasury bond is currently around 2.3%, up from a low of around 1.2% at the peak of the recession last spring. That is not a demanding level – the yield was above 3% as recently as October 2018. Nevertheless, in the context of a Fed policy that insists short-term rates will not rise from their current zero level until the end of 2023 or later, it implies a very steep “yield curve” indeed.

Normally, a steep yield curve is held to imply that the economy is expected to rebound strongly in the near future. Short-term money is cheap, because there is little demand for goods and services at present, but long-term money is more expensive, because demand is expected to pick up sharply and cause a surge in money demand in the future. That is the theory, anyway, though it dates back to the days of stable money and the Gold Standard and certainly has no predictive value when Gosplan is running the money supply as at present.

When Carville uttered his bon mot in 1993, the bond market seemed exceptionally strong because it had spent the preceding 15 years flexing its muscles. In late 1978 a “bond strike” had caused the Carter administration to tighten its fiscal policy considerably, then in mid-1979 the bond market caused a replacement of the Fed chairman, no less, with G. William Miller replaced by Paul Volcker.

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(The Bear's Lair is a weekly column that is intended to appear each Monday, an appropriately gloomy day of the week. Its rationale is that the proportion of "sell" recommendations put ...

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