The Phantom Menace
The one by Paul Krugman is a must read.
what I hear is that officials don’t trust the demand for long-term government debt, because they see it as driven by a “carry trade”: financial players borrowing cheap money short-term, and using it to buy long-term bonds.
the remedy should be financial, not fiscal. Have the Fed buy more long-term debt; or let the government issue more short-term debt.
That does sound rather obvious doesn’t it ? Why aren’t they doing that ?
My guesses after the jump.
I assume you have read Krugman’s post. The very brief recap is that someone in the Obama administration does not want to count on carry traders to short short term bonds and hold long term bonds, yet they are not arguing that the Fed or the Treasury should do that directly.
I can only guess that the Treasury has strict taboos against this sort of thing and I further guess that the origin of the taboo is that fiscal honesty requires the Treasury to act like a private firm.
A private firm that issued a huge amount of short term debt to finance medium and long term liabilities is vulnerable to bankruptcy. The firm has to roll over it’s short term debt. A prophecy that it will fail to do so will be self fulfilling. For a private firm, issuing a huge amount of short term debt and counting on being able to roll it over is reckless.
I guess that some permanent employees at Treasury have a very strong rule that the correctly stated Federal deficit is the deficit it would have if it followed similar rules to a private firm. Counting the cost of carrying debt long term at the short term interest rate is cheating. The Treasury has to constantly fight politicians who want to cheat and understate the deficit. This temptation can only be resisted by strong taboos and bogus arguments based on wildly overstating the risk the Treasury will go bankrupt.
Another issue is the perpetual war between the political staff which wants high spending and low taxes and economic advisors and the Treasury and which wants a low deficit. Polls are showing strong public concern about the deficit and a desire for lower deficits causing the political staff to switch sides. Economists who have been warning of the dangers of deficits are reluctant to reverse field. In particular, people are reluctant to admit that arguments which they made in support of low deficits are and were bogus. Economists are reluctant to admit that their predictions were dead wrong. They are tempted to argue “It hasn’t happened yet, but it will soon.” A well known Obama administration economist has been predicting a sharp rise in interest rates on Treasury bonds for a while now.
The 2/10 spread is at 263 bps. The two other times post Carter (D) inflation era that the 2/10 spread was this steep, long-term rates increased in the next year or two. If I didn’t care about self interest, I would be cheerleading for the dumb-o-crats to load up on T-bills. If you thought Metallgeschaft was messy, try refinancing the national debt when more than 40% of it comes due in the next year, and we won’t see surpluses by 2016.
Isnt it appropriate for the Treasury not to constrain itself with the same rules as a private firm? It is a currency issuer after all. It cannot go “bankrupt”. That is an impossibility, right? Isnt it also inappropriate to talk about deficits as something that NEED to be paid back? Or that Treasuries are issued so the govt can “borrow” money. In fact treasuries are issued so a non govt entity can save. And the more non govt entities save the more deflationary pressures there are, correct?
“or let the government issue more short-term debt. “
Uh, isn’t that what the government is doing? The duration of the government’s debt is under five years.
By the way, the error in depending so much on short-term debt is that it puts the government at a much greater risk. The shorter the duration, the more quickly interest rates can change. The government is probably, on average, financing its debt at around 2% at the moment. If it had been able to lock in this rate at 30-years, there would be far fewer people scared about the debt. But it didn’t (mostly because it can’t), so the government is supporting a huge risk that interest rates increase. If the risk is realized, it will suffer a huge loss.
What risk is the government incurring depending on short term debt? How does the govt “finance” its debt?
More to the point what IS govt debt? It most assuredy is not anything like private debt.
The govt has “borrowed” from no one. When the govt goes into “debt” the non govt sector goes into surplus. None of this talk makes any sense. There is NEVER a risk the govt cant pay its debts in US dollars. These debts are not in another currency are they?
The govt can never suffer a huge loss in the way you are framing the statement. It requires no particular rate of return on investments. The govt doesnt need money “from” anyone at all.