With Fed Assets And US Stocks In Lockstep, Yellen Suggests Fed Behind The Curve

Her comments were of interest not the least because she currently serves as treasury secretary. The US is in debt up to the gills, with national debt north of $28 trillion. Last year alone, this went up by $4.5 trillion.

The budget deficit is through the roof, with $4.1 trillion in red ink in the 12 months to March. Treasury issuance has followed. In the 12 months to April, $2.4 trillion was issued in treasury notes and bonds. In March last year, they were just a tad above $1 trillion each (Chart 2).

Low interest rates will obviously help a debtor. So for her to make those comments, (1) it is almost as if she expects rates to rise sooner than the consensus and (2) she is probably channeling Yellen as a central banker; she preceded Chair Powell.

The problem is, too much of this kind of language will be labeled interference – even an attempt to jawbone. To quote Yellen herself: “If anybody appreciates the independence of the Fed, I think that person is me.”

So why bother make the statement on Tuesday?

The next sustained move in interest rates is up. No ifs and buts about it. The benchmark fed funds rate is already zero-bound. In last week’s FOMC meeting, rates were left unchanged at a range of zero to 25 basis points. As was monthly purchases of at least $80 billion of treasury notes and bonds and $40 billion of mortgage-backed securities.

In the March meeting, a majority of FOMC members expected a hike in 2024. This is what is at the crux of the matter.

The long end of the treasury yield curve is on the move. The 10-year yield (1.56 percent) broke out of one percent in early June, and by March 30 ticked 1.77 percent. It straddled the 50-day for two weeks before losing it on Wednesday.

But the short end is yet to make a move. Two-year treasury notes are currently yielding 15 to 16 basis points. On Tuesday, the day Yellen spoke, two-year yields were unchanged at 0.16 percent.

This is important. Two-year yields tend to be the most sensitive to interest rate policy. This is markets’ way of letting the Fed know what they think where things are headed. So far so good. This gives the Fed leeway to continue with its current accommodative policy. Its assets already total $7.8 trillion, up from $4.2 trillion in early March last year. The S&P 500 could not be happier (Chart 4).

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