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Yields rise, and the US government must now service a higher level of debt, pushing the deficit higher. US is forced to re balance spending, stifling growth and

Yields rise, and the US government must now service a higher level of debt, pushing the deficit higher. US is forced to re balance spending, stifling growth and economic activity in order to keep debt in line. I'm not sure how this causes yields to rise. The short term interest rate is determined by the FED. If China sells off enough treasuries that the interest rate on them jumps to 1.0% then the FED will probably just buy more treasuries until the interest rate hits the zero lower bound again at 0% interest. This would stimulate the economy.

ams6110 11y ago
Bond yields and prices are inversely related. Prices fall, yields rise.
- dragontamer 11y ago
  Why the hell is this getting downvoted? Are basic bonds beyond the grasp of this forum? High yields are low prices for the bond holders. So when people sell bonds, the price drops, which causes the yield to rise. ams6110 is fully correct here and is stating simple facts of the bond market.
  - leg100 11y ago
    Because it's clear the person he's responding to understood that relationship. If he'd bothered to read all four sentences, it's clear he meant he wasn't sure why yields would rise if the Fed would react by buying bonds.
  - AnimalMuppet 11y ago
    Perhaps it's getting downvoted because it's irrelevant to JamesBarney's point. The Fed (normally) sets (very) short-term rates; the market sets longer rates. But the Fed also can to some degree set longer rates by QE. And, in fact, the Fed can print more money than China can sell dollar-denominated bonds, and therefore the Fed can win the battle - if they want to badly enough.
    - deleted 11y ago
      [deleted]
      - AnimalMuppet 11y ago
        Printing more dollars to buy bonds would counteract China's sale of bonds. I fail to see any way in which that is not clear. > Rising long-term yields signal future inflation. In this case, they would signal no such thing. They would signal sales by China's Central Bank. That is not related in any way to future inflation expectations.
- JamesBarney 11y ago
  I understand that. However what I don't understand is how the price of the treasury bond falls when there exists a buyer in the market that has an insatiable appetite for treasuries and a Scrooge McDuck sized wallet(The Fed). In economic jargon it would mean we currently have perfectly elastic demand for short term treasury bonds.
  - spikels 11y ago
    Short term rates are directly set by The Fed. (Notice I said "rates" not "bonds". In the jargon "Bonds" have terms of over a year. Bonds are not controlled directly by The Fed - only very short-term rates (typically just a few days).) Long-term rates (i.e. Bond yields) are set by the market in which the The Fed is a major participant but not big enough to completely control the market. This was greatly expanded under the 3 quantitative easing programs but the last of these ended almost a year ago. Also keep in mind that the US bond market is huge - around 40 trillion dollars - with treasuries only about 1/3 of the total. Even after all the extraordinary intervention by The Fed they hold around 10% of that total. China holds less than The Fed and much of that is not is US dollar bonds.
  - dragontamer 11y ago
    http://www.bloomberg.com/news/articles/2015-08-20/citi-the-markets-read-the-minutes-wrong-and-the-fed-will-hike-in-september http://www.bloomberg.com/news/articles/2015-08-20/citi-the-m... http://www.bloomberg.com/news/articles/2015-08-25/citi-the-fed-will-still-hike-in-september-but-there-s-one-big-wild-card-ahead http://www.bloomberg.com/news/articles/2015-08-25/citi-the-f... Fed is sending mixed signals. But recent articles I've seen imply that the Fed is going to be raising rates.
    - heapcity 11y ago
      Ever do the jiggle with another person walking in the opposite direction? China & Fed past couple weeks.
roymurdock 11y ago
Correct, the Fed determines short term interest rate through Federal Funds Rate (FFR). The treasury instruments we are discussing here are mainly 5-10 year notes and bonds. Thus the yields on these instruments reflect long term interest rates. The market, not the Fed, determines long term interest rates. Check out this graph: https://research.stlouisfed.org/fred2/graph/?g=1HPC https://research.stlouisfed.org/fred2/graph/?g=1HPC The long-term interest rate used to be much more closely correlated with the FFR. We see that it has decoupled significantly during the past 10 years and is now moving somewhat independently of the FFR. The Fed is stuck at the lower 0 bound and has no power over long term interest rates anymore. Janet Yellen has noted this publicly herself. [1] What you are describing - the Fed purchase of more long-term US treasuries - is another wave of Quantitative Easing. The problem with QE is that, while it gives the financial system more liquidity, that liquidity has not passed on to the end consumers. So the Fed would be adding (potentially overpriced) liabilities to its already massive pile of debt in order to have a somewhat negligible effect on long-term interest rates, and to probably have no effect whatsoever on economic activity within the US. In short, it would be taking on more risk for relatively little reward. I highly recommend this reading: http://www.heritage.org/research/reports/2014/08/quantitative-easing-the-feds-balance-sheet-and-central-bank-insolvency http://www.heritage.org/research/reports/2014/08/quantitativ... [1] http://dailysignal.com/2014/07/11/fed-vice-chair-mark/ http://dailysignal.com/2014/07/11/fed-vice-chair-mark/
- JamesBarney 11y ago
  Thanks, I missed in the original article that it mentioned 10 year notes. I assumed they were short term notes. My understanding is long term interest rates = expected short term interest rate over the long term + premium for locking up money for a long time. (if not then arbitrage would occur) Assuming the premium for locking up money remains constant. The FFR over the next 10 years determines the 10 year interest rate. In this case the selling of Chinese long term debt shouldn't have much of an effect on long term interest rates except through the channel of changing the future expected FFR. Yellen said “The Federal Reserve’s control over longer-term interest rates is more indirect and more limited than its influence over the level of the federal funds rate.” She is talking about how the Fed still has control over long term rates through the expectations channel mentioned above. Imagine Janet Yellen came out today and said they would not raise rates from 0% for 5 years no matter the economic conditions. Long term rate would fall as people would expect a lower FFR going forward.
vilhelm_s 11y ago
Expecting that selling bonds would affect the bond yields is such a quaint, pre-2008 notion. :)

ams6110 11y ago

Bond yields and prices are inversely related. Prices fall, yields rise.

dragontamer 11y ago
Why the hell is this getting downvoted? Are basic bonds beyond the grasp of this forum? High yields are low prices for the bond holders. So when people sell bonds, the price drops, which causes the yield to rise. ams6110 is fully correct here and is stating simple facts of the bond market.
- leg100 11y ago
  Because it's clear the person he's responding to understood that relationship. If he'd bothered to read all four sentences, it's clear he meant he wasn't sure why yields would rise if the Fed would react by buying bonds.
- AnimalMuppet 11y ago
  Perhaps it's getting downvoted because it's irrelevant to JamesBarney's point. The Fed (normally) sets (very) short-term rates; the market sets longer rates. But the Fed also can to some degree set longer rates by QE. And, in fact, the Fed can print more money than China can sell dollar-denominated bonds, and therefore the Fed can win the battle - if they want to badly enough.
  - deleted 11y ago
    [deleted]
    - AnimalMuppet 11y ago
      Printing more dollars to buy bonds would counteract China's sale of bonds. I fail to see any way in which that is not clear. > Rising long-term yields signal future inflation. In this case, they would signal no such thing. They would signal sales by China's Central Bank. That is not related in any way to future inflation expectations.
JamesBarney 11y ago
I understand that. However what I don't understand is how the price of the treasury bond falls when there exists a buyer in the market that has an insatiable appetite for treasuries and a Scrooge McDuck sized wallet(The Fed). In economic jargon it would mean we currently have perfectly elastic demand for short term treasury bonds.
- spikels 11y ago
  Short term rates are directly set by The Fed. (Notice I said "rates" not "bonds". In the jargon "Bonds" have terms of over a year. Bonds are not controlled directly by The Fed - only very short-term rates (typically just a few days).) Long-term rates (i.e. Bond yields) are set by the market in which the The Fed is a major participant but not big enough to completely control the market. This was greatly expanded under the 3 quantitative easing programs but the last of these ended almost a year ago. Also keep in mind that the US bond market is huge - around 40 trillion dollars - with treasuries only about 1/3 of the total. Even after all the extraordinary intervention by The Fed they hold around 10% of that total. China holds less than The Fed and much of that is not is US dollar bonds.
- dragontamer 11y ago
  http://www.bloomberg.com/news/articles/2015-08-20/citi-the-markets-read-the-minutes-wrong-and-the-fed-will-hike-in-september http://www.bloomberg.com/news/articles/2015-08-20/citi-the-m... http://www.bloomberg.com/news/articles/2015-08-25/citi-the-fed-will-still-hike-in-september-but-there-s-one-big-wild-card-ahead http://www.bloomberg.com/news/articles/2015-08-25/citi-the-f... Fed is sending mixed signals. But recent articles I've seen imply that the Fed is going to be raising rates.
  - heapcity 11y ago
    Ever do the jiggle with another person walking in the opposite direction? China & Fed past couple weeks.

roymurdock 11y ago

Correct, the Fed determines short term interest rate through Federal Funds Rate (FFR). The treasury instruments we are discussing here are mainly 5-10 year notes and bonds. Thus the yields on these instruments reflect long term interest rates. The market, not the Fed, determines long term interest rates. Check out this graph: https://research.stlouisfed.org/fred2/graph/?g=1HPC https://research.stlouisfed.org/fred2/graph/?g=1HPC The long-term interest rate used to be much more closely correlated with the FFR. We see that it has decoupled significantly during the past 10 years and is now moving somewhat independently of the FFR. The Fed is stuck at the lower 0 bound and has no power over long term interest rates anymore. Janet Yellen has noted this publicly herself. [1] What you are describing - the Fed purchase of more long-term US treasuries - is another wave of Quantitative Easing. The problem with QE is that, while it gives the financial system more liquidity, that liquidity has not passed on to the end consumers. So the Fed would be adding (potentially overpriced) liabilities to its already massive pile of debt in order to have a somewhat negligible effect on long-term interest rates, and to probably have no effect whatsoever on economic activity within the US. In short, it would be taking on more risk for relatively little reward. I highly recommend this reading: http://www.heritage.org/research/reports/2014/08/quantitative-easing-the-feds-balance-sheet-and-central-bank-insolvency http://www.heritage.org/research/reports/2014/08/quantitativ... [1] http://dailysignal.com/2014/07/11/fed-vice-chair-mark/ http://dailysignal.com/2014/07/11/fed-vice-chair-mark/

JamesBarney 11y ago
Thanks, I missed in the original article that it mentioned 10 year notes. I assumed they were short term notes. My understanding is long term interest rates = expected short term interest rate over the long term + premium for locking up money for a long time. (if not then arbitrage would occur) Assuming the premium for locking up money remains constant. The FFR over the next 10 years determines the 10 year interest rate. In this case the selling of Chinese long term debt shouldn't have much of an effect on long term interest rates except through the channel of changing the future expected FFR. Yellen said “The Federal Reserve’s control over longer-term interest rates is more indirect and more limited than its influence over the level of the federal funds rate.” She is talking about how the Fed still has control over long term rates through the expectations channel mentioned above. Imagine Janet Yellen came out today and said they would not raise rates from 0% for 5 years no matter the economic conditions. Long term rate would fall as people would expect a lower FFR going forward.

vilhelm_s 11y ago

Expecting that selling bonds would affect the bond yields is such a quaint, pre-2008 notion. :)