Long end UST yields on the rise with reflation-y factors taking more of a hold, last year’s postponed YCC flirtation is almost certain to be rekindled over the weeks ahead. We’ve been told how it’s really simple, meaning low interest rates are stimulus and this must be maintained without fail. But what’s really been responsible for all the failing?
When I hear the term “yield curve control”, I immediately think of Richard Fisher. The last thing any central banker or supporter of conventional monetary policy wants is to be so closely identified with the former Dallas Fed President. Proven time again to misunderstand what the central bank actually does, to the point of confusion over what bank reserves actually represent, yet it was this particular Texan who confounded his more plugged-in colleagues at the FOMC with his toddler-simple wit at least when it came to this bond purchasing stuff.
MR. FISHER. In summary, I want to mention that, as I said earlier, most of these variations that have been suggested are very un-Bagehot-like. And what I mean by that is, twisting [or QE and yield caps] entails purchasing assets that investors are fleeing toward, not assets that they are fleeing from. [emphasis added]
By that he meant the very basics; monetary officials tell the public all the time that bond buying (QE) is why interest rates have ended up going lower, and that lower interest rates are powerful stimulus. Put those two things together and monetary policy employing QE must be awesome.
So, here was Fisher pouring cold water all over that neat little theory by his simplistic notion of some real scientific observation; why are we buying the same assets everyone else already is?
The immediate theoretical implication is equally obvious as is this contradiction. Just who, then, is actually responsible for lowering interest rates? And if it doesn’t end up being policymakers, what do low interest rates actually signify?
Should you read any of the mountain of uninspiring central bank-sponsored academic literature, which seeks every plausible manner to attribute positive effects to the overlords’ policies, this is why they can’t say for certain there’s much to this bond buying business.
At best, scraping the bottom of the barrel, maybe rates end up even lower than they already would have been. It’s the yield equivalent of being reduced to claiming how QE “saved” rather than clearly created jobs. Sure, the market got interest rates way down, but maybe the central bank got them a little lower, too, and that perhaps could make a big difference (or something).
Here’s yet another example for you, down under in Australia:
Not only has the Reserve Bank of Australia (RBA) been active since last March in government securities markets, they’ve been lauded for their “pioneering” approach to controlling rates having rolled out yield curve control (yield caps) “early” on.
Last March 19, RBA officials amidst the global panic of GFC2 made an astounding admission attempting to justify themselves:
However, the functioning of major government bond markets has been impaired, which has disrupted other markets given their important role as a financial benchmark. Funding markets are open to only the highest quality borrowers.
This should sound charily familiar. Not only had the UST market become “impaired”, Australia’s government broke down suspiciously in the same way, too.
Suddenly, the world (or at least the US and Australia) no longer featured the same dependable government securities markets as had been a key assumption forever. Like the Federal Reserve, RBA central bankers assumed that it must have been a market problem (rather than, you know, figure out why there was so much forced selling in the first place; or, as in the US, why OTR vs. OFR came to matter so much).
Thus, believing the government bond market in need of repair and support, since the economy was in horrible shape anyway RBA advanced YCC as a more economical policy measure. By explicitly stating a specific target for AGS (the 3-year bond, in this case), Aussie central bankers were widely heralded (in the mainstream media) for asserting both support and dominance at a crucial moment.
It furthered the “rescue” idea by putting forward the image of wise monetary stewards reacting adeptly to a crisis not of their own making.
And, supposedly, it had all gone along more than swimmingly. RBA, in fact, didn’t even need to jump in the market those first few months:
The Reserve Bank of Australia imposed them [yield caps] back in March 2020 during GFC2, opting for what it said was the cleaner, more efficient option than straight QE. Bond buying messy and confused, yield caps neat and simple. It’s been so successful, sayeth the media, that the central bank hasn’t had to buy a single bond in two months.
Umm, that’s not success so there can’t be “benefits” for anyone to notice. Instead, that’s the market once again disagreeing with the central premise of central bankers. Rates had risen somewhat sharply in and immediately after GFC2 because of liquidity breaking down even in government bond markets (especially UST’s, that whole collateral business). Central bankers not doing their jobs, in other words.
While officials have proclaimed a flood of liquidity in practically every currency on earth, bond yields since then instead paint a very different picture; one devoid of any flood, more deflationary than inflationary despite the flood of positive press for the official story. If the Reserve Bank of Australia hasn’t had to buy bonds in eight weeks, it’s not for the reason it thinks; or wants you to think.
Recall Dick Fisher; maybe RBA didn’t need to buy bonds because the market was already doing just that. Except, not “maybe.”
By September last year, the market decided it wanted to buy a lot more of those same securities deeply undercutting these yield caps along with the “V” recovery story then being taken for granted (in commentary, anyway). Yields all along the AGS curve tumbled further, as they would in many other places outside Australia; short end AGS yields dropped from the yield cap of 25 bps throughout September and October as the global outlook (summer slowdown) worsened.
The RBA, as usual, was late to the shifting dynamics and only reduced the yield cap on the 3s in early November about two months after the market had already begun moving in that direction. Again, just who is in control of the yield curve?
Even more frustrating, the RBA’s 3-year yield target was presumed (by conventional narrative) responsible for the stable and then downward direction of longer-term AGS rates (such as the 10s), too; that’s how powerful we are led to think YCC must be. One target apparently ruled the entire Australian curve, rather than market buying of safe, liquid instruments in all currencies in advance of growing risks because officials in every one of these places have no idea what they are doing.
To prove this, at the same time, Aussie policymakers threw in the towel by also announcing a full-scale 6-month QE program that before November had been declared unnecessary by the “success” of the yield caps noted above. You’d have gotten the sense that the primary danger during last autumn was primarily from rising interest rates when that was farthest from the case.
But then vaccine-aphoria showed up barely a week later. Since, ironically, AGS 10s have been rising as have longer-term government yields pretty much everywhere around the world. Reflation here, not monetary policy there.
Meanwhile, at the short end, rates are having no trouble sticking around the 10 bps target with short-term AGS yields at the 2s at times significantly below it. In short, the AGS yield curve is undergoing much the same market-derived twisting as we find over here in the UST curve where reflation – not yield cap threats – has taken hold in the long end while T-bill supply and premium demand (collateral) pressures the short end.
Opposite ends of the earth, one with YCC the other none, and yet curves functioning in almost the same way regardless; as if there’s some linked global monetary system in between everything outside the geographical boundaries of central banks desperate to show, never prove, how they must be in charge.
Even Richard Fisher, of all of them, suspected there was something not quite right about this stuff.
In both UST’s and AGS’s, this is not necessarily a contradiction (like early 2018). Lowering rates up front more than hint at risks over the short and intermediate run which might end up tripping up the reflation narrative and trading before it gets too far (also like 2018). Central bankers on either side matter far less to either end of the curve.
So, bring on US YCC. The results will be the same anyway – whichever way the market sees.