The Stagnation Capitulation and The Taper Tantrum
Paul Krugman interpreted the recent decline of 10 year safe interest rates from extremely low to astonishingly low as a capitulation to stagnation. He argued (convincingly) that investors have decided that short term safe interest rates will remain extremely low for a long time (evidently at least 10 years) and that the post 2008 pattern of slack demand, low inflation and extremely low interest rates is the new normal. It is probably best to just read his op-ed, but he considered and rejected the arguments that the low safe interest rates are the result of a flight to quality.
I want to compare the recent sharp decline in interest rates to the sharp increase in 2013 which is called the “taper tantrum”. I can’t manage an alliteration however, stagnation capitulation rhymes and is (arguably) the mirror image of the taper tantrum.
I make the comparison for two reasons. The first is that the conventional term “taper tantrum” asserts that the cause of the 2013 increase is an announcement by the Federal Reserve Open Market Committee (FOMC) that they were considering tapering the monthly pace of quantitative easing (not reducing their assets but reducing the rate of increase). This interpretation would imply that I have been wrong for years as I argue that quantitative easing has only small effects. This is a silly personal reason for continuing to discuss the taper tantrum, so I will move that discussion after the jump.
The second reason is that there is an alternative interpretation of the 2013 increase which is the exact mirror image of Krugman’s stagnation capitulation hypothesis. I tried to present it here. I expressed the idea even worse than usual so I will try again now (and ask the reader to trust me that this is what I had in mind then)
The story is that investors assumed back in 2012 and 2013 that the economy and interest rates would return to normal some time fairly soon. Then in Spring 2013, they decided that this time had come so they all demanded higher returns on bonds. This (not successfully written) story is the exact mirror image of Krugman’s op-ed. He argues that what just happened is that investors suddenly decided that economies were not going to return to normal any time soon.
This is relevant to the old debate about QE, because if markets can shift one way without FOMC action, they could have shifted the other way for reasons other than a bland FOMC announcement. More grinding old axes after the jump.
Somehow I have found myself devoted to the position that unconventional monetary policy is ineffective. I was once even interviewed by a reporter (a very very rare event for me). I have argued this aggressively (sometimes offensively and I have been intending for years to apologize to Scott Sumner for being very very rude in a post to which I will not link — I really am sorry — there I’ve done it (after a jump but I’ve done it)).
This made me eager to interpret the so called taper tantrum as caused by something other than the announced tapering. In my old post (which I just re-read) I noted a few things. One is that the taper announcement wasn’t news at the time it allegedly caused bond prices to sharply fall. Another is that bond prices fell over roughly a month. There wasn’t just that one sudden jump. Also the S&P 500 index increased over that month and the dollar didn’t rise against other currencies. The last two points do not fit a shift towards belief that future montary policy will be tighter. Tight monetary policy should case low share prices and a high value for the dollar. The increase in stock prices (for what it’s worth) fits a forecast that the economy would return to normal not a forecast that monetary policy would tighten. Now stock prices bounce up and down for no comprehensible reason, so the data aren’t worth much, but as far as they go, they fit the story of a contra-stagnation counter offensive not the story of a taper tantrum.
I suggest you look at the rates with respect to the long term trends. You will find the differences are insignificant .. pure statistical noise.
I used the long term linear trend from 1987 top present and from 12/02/2013 to present finding that the trend rate hasn’t changed. The Trend rate defines the “new normal” and since t’s constantly dropping at a constant rate over time the new normal is always ~ 0.235% lower every year than it was the year before.
I have no idea how PK, though I believe most of everything else he writes. can conclude anything at all based on the present low daily 10-Yr yields. The new normal is lower than it was a year ago and will be lower than it is now if the trend continues as it has for the past 29 years at the same declining rate.
91% of the long term changes are due to purely to elapsed time (Rsquared = 91% since 1987). Only 9% is due to the variation about the trend. Thus normal is defined by the trend, not the point in time daily rates between date a year ago and date today. The “new normal” today is 0.224% lower than it was a year ago.
Unlike most of PK’s blog and Op-Ed entries this one is out to lunch with far too little reasoning to reach the conclusion “capitulation”. If that is true today, then it the capital markets have been ‘capitulating’ every since the trend was established (which is why I looked at it from two different time periods, the recent period from before the housing boom peaked and the busted, though the QE’s, China’s growth rate decline, Europe’s negative growth, etc. though to the 7/08/2015 daily close.
if the long term and shorter term rates of decline are the same, then the constant is in the rate of decline which by definition defines the “new normal”…. at ~ -0.8% every 4 years in yields. .
You are right
The other evidence is that the taper tantrum was different from other times the fed stopped easing the pattern when other QE cycles ended was for bonds to rise all consistent with your point (and stocks to fall)
Taper tantrums are ways to get weak hands to give up their bonds so the Goldman Sachs’ of the world can buy them up. There is massive demand for bonds as collateral, a new gold if you will. I have written a lot about it at Talkmarkets. Market monetarists don’t even talk about this massive demand for collateral. I think most economists simply don’t understand the impact of the need for and possible shortage of, collateral going forward.
Scott Sumner won’t even talk about this massive collateral demand, almost as if he is stuck in another time and another place while the world has moved on. I think this use of bonds is dreadful, but, it is the game being played. People should at least acknowledge it.
Welcome to AB. I am assuming you are not hawking something so I did not consider you to be spamming.
Thanks Run. I am sincerely concerned about why monetarists refuse to acknowledge this new reality. Would I write an article if I found out the answer? Probably so. But so far the monetarists are very tight lipped when it comes to the importance of collateral in the derivatives markets.
Robert Waldman knowledge is superior to mine. He is a good guy and I am sure he will answer you. I defer to Robert.
Thanks for those comments. I also say things I later regret, so I apologize if I was out of line back then.
FWIW, I think you are mostly right about 2013, although I’d argue the perceived strength of the economy back then was partly due to monetary stimulus announced in late 2012, with the avowed goal of offsetting fiscal austerity in 2013.
You may not agree with that interpretation (which is admittedly speculative) but again I do think your reading of the data makes more sense than the taper tantrum interpretation, with the possible except of a couple trading days when markets may have been responding to announcements made by Bernanke.
Wow, thanks for the comment. Would love to post some of your work and words also.