Selected in the top 100 Economics Sites

Follow me on Twitter

Sunday, February 6, 2011

VEGAN...old Indian word meaning "bad hunter".


InflationHawk said...

Doc, when you have the opportunity, could you please explain a question regarding the Fed?

We know that bond yields and bond prices are inversely related. We also know the Fed (through QE1 & QE2) has/is purchasing massive amounts of TSecurities (recently, the Fed surpassed China has the largest holder of said debt instruments). We know that yields have been rising and will likely continue to rise. Given what we know, isn't the Fed's financing of the government's debt going to result in massive losses on these investments & haven't they already experienced these losses considering the increase in yields? What is it that i'm missing?

Randall Parker said...

Dear (P(t) - P(t-1))/P(t-1) * 100 Hawk: You are correct that higher interest rates will result in capital losses once these notes are sold. So you are half right. Yes they will lose $$$ when sold as rates rise...but no they have not lost $$$ yet as they have not sold them yet. If they hold them to maturity so the holding period and time to maturity are the same then there is no loss. But if that happens on the 10-year notes they are buying, we will have "that 70s show" all over again. Don't want that my friend.

Thanks for visiting.

(P(t) - P(t-1))/P(t-1) * 100 Hawk said...

So, you're saying capital losses on QE2 are eminent, ultimately resulting in BIG losses for taxpayers?

And I like the new twist on the name!

Randall Parker said...

Dear dP(t)/dT or P'(t): I don't know how BIG BIG is. Need balance sheets and econometrics to begin to answer this. But the Fed would have had these same losses during any contractionary monetary policy that raised interest rates from days gone by when things were "normal" if the policy was implemented with longer-term debt. Usually that was not the case as open market operations were conducted exclusively with short-term debt so these issues were non-issues. If this means that the Fed transfers less back to the Treasury in surplus interest payments to offset these losses on their balance sheet, then I don't see this as a major deal.

What you should be far more worried about is whether the Fed has compromised their independence so much that they will not have the political will to increase interest rates when necessary to stop inflation before it happens. Allan Meltzer seems to think that time is now...I am starting to believe it too. See tomorrow's posting.

P'(t) said...

Oh, now I see that you're using calculus on me.

I think you just mentioned the problem, is that purchasing longer term securities isn't conventional policy.

I suppose the added fear is that with increasing rates, there will also be a larger burden on the debt just to pay the interest on the securities.

Randall Parker said...

Right. But that is the Treasury's problem then...which of course means yours and your wallet's. Me too.