Re: Fed vs White House - LT interest rate targetting

["Niggle, Christopher" <Christopher_Niggle@xxxxxxxxxxxx>]

Gary, others interested.  I think that central banks such as the Fed could
set long term rates directly if they purchased-sold longer Treasury
securities with open market operations instead of dealing exclusively in
short term securities as they usually do.  If inflationary expectations then
caused speculators to sell off long term bonds the Fed could still keep the
long rates low if they were willing to purchase as many as necessary, right?
This was Keynes's view in the GT, I think, but I'll defer to the experts on
that point.

Such a policy stance could lead to a very large increase in commercial bank
reserves of course, and a potential large increase in bank lending and the
monetary aggregates, if the Fed had to buy a lot of bonds to keep their
price up and rates low, but I think that the Fed could set long rates
wherever they want them if they ignored the effects on reserves and
potential bank lending.

Chris

-----Original Message-----
From: mongiovg
To: Henry C.K. Liu; pkt@xxxxxxxxxxxxxxxx
Sent: 4/26/03 10:03 AM
Subject: Re: Fed vs White House

I would be interested in hearing what Paul D. or Mat F. think about
this.  I
assume that Laubach's results are grounded in orthodox macroeconomic
thinking
about liquidity. As a Sraffian, I'm partial to the Kaldorian ideas that
money
is endogenous and that the monetary authorities can set interest rates
independently of the market for saving & investment. I think Paul
remarked a
few weeks back, that during the Second World War the US was able to
sustain
huge deficits without high interest rates by adopting an easy-money
policy.
That's intriguing. But are there no real-sector contraints on the
monetary
authority's ability to keep interest rates as low as they wish to?

Gary


>===== Original Message From "Henry C.K. Liu" <hliu@xxxxxxxxxxxxxx>
=====
>Fed economist Thomas Laubach estimates in a recent paper that every
>additional $100 nillion increase in projected annual budget deficit
adds
>one quarter percentage point to the yield on 10-year Treasury bonds.
>The Fed's traditional position is that budget deficits raise longterm
>interest rates, over which Fed monetary policy as currently constituted
>has little control.
>
>White House economists and tax cut advocates contends that the link
>between deficits and interest rates is loose and is negligent when
>compared with other economic forces.  Further, they contend that tax
>cuts by themselves do not necessarily produce deficits because tax cuts
>stimulate the economy and in turn increase tax revenue even with a
lower
>tax rate.
>
>The Laubach estimate is 16 times that estimated by Bush's Council of
>Economic Advisors, as it was headed by Glenn Hubbard of Columbia, which
>came to 0.015 percentage point for each addition $100 billion.
>
>Based on the Laubach estimate, the Bush budget if passed as is ($300
>billion) would increase 10 year Tresuries by 0.5 to 0.6% in 2004.  The
>bond market has reacted accordingly.
>
>Laubach is a recognized inflation targeter, part of the Princton gang
>that includes Taylor of the Taylor Rule, Bernanke, the money printer of
>late.
>
>(Inflation Targeting: Lessons from the International Experience
>by Ben S. Bernanke, Thomas Laubach, Frederic S. Mishkin, Adam S. Posen)
>
>According to the Financial Times, the administration's estimate of a
>cumulative deficit for $1,048 billion for the five-year period
2004-2008
>was only achieved through a "sleight of hand" carried out by offsetting
>surpluses set aside for Social Security payments against the "massive
>future liabilities of the federal government." If these surpluses are
>stripped out, the cumulative deficit in the next five years rises to
>$2,140 billion.
>
>That's $400 billion additional deficit a year, which will push 10 year
>Treasuries 1% higher each year for the next five years from its current
>4%.  Ten year rate could reach 9% in 2008.  Goodbye recovery.
>
>Henry C.K. Liu