The massive fall of Treasury bill, note, and bond rates this past week reminds me of the remarks that Alan Greenspan made several years back about the bond "conundrum". Only more so. With the inflation we'd seen up to mid year 2008, interest rates should be far higher seven to nine years after the low of gold, and certainly not lower.
The retest of the rates lows (and the bond high) in September was understandable and short-lived. This past Thursday's event "feels like" a short squeeze of some sort, but who would have been short enough Treasury bonds to enable that? Or who is buying enough?
One thought I've seen in several places in the past few days is that if deflation seemed probable, the FED might feel the need to buy Treasuries. I assume that means if lowering FED funds to zero doesn't work to stimulate loan demand, and if the Keynesian "liquidity gap" has therefore gaped wide open, then they'd quickly lower the long bond rate. Here is Lyle Gramley's version of the story:
""Credit availability certainly hasn't increased," said Lyle Gramley, a former Fed governor. "That has to be a major concern for the Fed because historically the way we get out of recessions is having the Fed push down hard on the accelerator. If that is not working very well, we have to look somewhere else for salvation."
When the FED buys Treasuries it is "monetizing the debt", as it is usually called. The FED has already exchanged Treasuries to the banks for bad bank debt as part of the "re-financing". If they are buying Treasuries back they are cashing the banks (and others) out of their new (and old?) Treasuries and causing a short squeeze? This puts the favored banks flush with cash and the FED flush with bad debts.
The Treasury itself has recently sold scads of new bills, notes and bonds and taken cash *out* of the economy (somewhere in the world economy) for its on-again, off-again "rescues". So the FED monetization would seem to be a "reverse sterilization" to put the demand potential cash *back into* the economy that the Treasury has pulled out. Shell game or Princeton economics graduate seminar on solutions for the liquidity gap?
