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.

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