Wednesday, December 8, 2010

Deflation? Disinflation? Stable Prices? Moderate Inflation? Or What?

Don’t look now, but the yield on the 10-year treasury note closed at 3.24% on December 8, 2010.  It was 2.41% during October 6-8.  This figure was cited by economists favoring more stimulus.  They argued that there was no risk of inflation, indeed that deflation remained the greater threat, given that investors were willing to buy 10-year paper yielding 2.41%.

The yield has risen 83 basis points in just over two months.  Is this rise a flight to greed, away from the previous flight to safety?  Or, did the bond vigilantes ride into town?

Fed chairman Bernanke’s announcement of more quantitative easing (buying $600 billion of long-dated U.S. securities) was supposed to bring down rates.  So far, no good.  Mortgage applications are declining as rates are rising.  What happens if more easing pushes up long rates, indeed pushes up the entire yield curve?  Higher rates mean larger deficits as the government will have to pay higher interest to roll over existing debt and sell new debt.

Are there any economists or finance experts out there who can explain what’s happening and the consequences for the economy if easing raises rather than lowers rates?

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