One aspect of what is happening in the bond market is that the 2 to 10 year spread is reaching equivalent levels at higher and higher absolute yields. Here’s a graph I generated last week, where I normed both the 2 and 10 year Treasury yields to zero at a point where the spread between them was 0.30%:
Can the Fed successfully steer between Scylla and Charybdis? An update
Can the Fed successfully steer between Scylla and Charybdis? An update
Note that the two lines intersect (meaning the spread between them is 0.30% three times in the past 45 days: first when the 10 year bond was yielding about 2.83%, then when it was yielding 2.87%, and last week when it was yielding 2.98%.
In other words, the dynamic is that the yield on the 10 year bond has to be at higher and higher levels in order not to be too tight. And the higher those 10 year bond yields, the higher mortgage rates go as well, gradually strangling the housing market.
Can the Fed successfully steer between the Scylla of an inverted yield curve and the charybdis of a housing market downturn?
Possibly. The San Francisco Fed’s staff just published a paper in which they suggested that the “neutral Fed funds rate” was 2.5%, as shown in this graph which they generated:
If the Fed stops after two more hikes, it’s at least possible that there could be a tight but not inverted yield curve with 10 year bonds yielding roughly 3%.
But the Fed’s own “dot plot” from their meetings suggest that they intend to hike the Fed funds rate to at least 3%. If that happens, I see no way the economy doesn’t wind up on the rocks.
How is the Fed going to stop the corporate debt bust or Brexit bank bust which could be a Lehman style event globally?
All cycles end, some with a bang. Nor is the Fed moving the EFR to 3% until the end of 2019…………..sans a bust. Looks like one more hike this year and 2-3 next year after a pause. That is pretty dovish.
Not raising rates hurts banks. That is one factor your forgetting, which actually causes the economy to get hurt in the short term. This is what people don’t understand. When the Fed “cuts rates” they are giving up on the expansion and looking down 18-24 months down the road.