Interest rates play a crucial role throughout the economy.
For regular folks like us, they determine how much money we receive from our bank accounts and money-market funds. They also determine how much money we’ll have to pay on our mortgage, credit-card and auto loans.
For companies and the government, interest rates dictate how much money they’ll have to pay to finance their borrowing — massive borrowing for the government. The federal government’s debt totals $35 trillion.
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As for the path for interest rates, the Federal Reserve raised rates by 5.25 percentage points from March 2022 through July 2023. That brought the Fed’s federal funds rate target to 5.25% to 5.50% from almost zero.
The Fed funds rate is paid on overnight interbank loans (banks borrow from each other to maintain capital stability).
But this year investors have been looking forward to Fed rate cuts, as inflation and the economy slow. That has pushed the 10-year Treasury yield down to 4.18% Monday from 4.71% on April 25.
Looking at expectations for the Fed, interest-rate futures indicate a 100% chance the Fed will trim rates by September. The probability is only 5.2% for a rate reduction at this week’s Fed meeting.
Futures signal a 97.6% chance of at least two rate cuts by December, with a 61.8% probability of at least three decreases.
Treasury’s influence on interest rates
While the Fed sets rates directly, the U.S. Treasury can influence their levels with the timing and size of its bond auctions and the maturities of bonds sold in the auctions.
Some Republican politicians see a conspiracy in the Treasury’s recent handling of auctions, a conspiracy to keep long-term rates low and thus stimulate the economy.
And they accuse the Treasury of keeping short-term rates high to put money into consumers’ pockets.
Famed economist Nouriel Roubini (known as Dr. Doom for his dire economic forecasts) and Stephen Miran, a Treasury official under President Donald Trump, have now accused the Treasury of improperly manipulating debt auctions in a recent commentary published by money manager Hudson Bay Capital, where both have positions.
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“By adjusting the maturity profile of its debt issuance, Treasury is dynamically managing financial conditions and through them, the economy,” the duo wrote.
That is “usurping core functions of the Federal Reserve,” they said. “We dub this novel tool activist Treasury issuance (ATI). By manipulating the amount of interest rate-risk owned by investors, ATI works through the same channels as the Fed’s quantitative easing programs.”
Quantitative easing is when the Fed buys Treasuries to boost money supply and stimulate the economy.
Dr. Doom's claim: Equivalence to Fed rate cuts
The two economists estimate that ATI has reduced 10-year Treasury yields by roughly 25 basis points over the last year. That has provided economic stimulus similar to a 1 percentage-point cut in the fed funds rate, they said.
That counteracts the Fed’s rate hikes of 2022-23, they said. “ATI has interdicted the Fed’s attempt to restrain the economy, helping explain inflation persistence and upward nominal growth surprises over the past year,” the pair said.
Not surprisingly, Treasury Secretary Janet Yellen is unmoved by the arguments.
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The Roubini-Miran report “suggests a strategy that is intended to ease financial conditions, and I can assure you 100% that there is no such strategy,” she told Bloomberg. “We have never, ever discussed anything of the sort.”
She referred to a speech earlier this month by Assistant Treasury Secretary Jack Frost. “We issue securities in a regular and predictable fashion as part of our strategy to borrow at the lowest cost over time,” he said, according to Bloomberg.
“This mission statement has existed for several decades, and we never lose sight of that north star.”
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