Tuesday, November 17, 2020

Inflation and Interest Rates May Not 'Quite' Go Hand-in-Hand Next Year...

As I've suggested lately herein, I'm leaning toward the rising inflation camp as we move firmly into 2021. Which is a position at odds with that of a number of economists/macro thinkers whom I have great respect for. 

Their position is that with such low prospects for filling a crazy-wide output gap (potential GDP vs the real thing) inflation doesn't stand a chance. My position is that with the likelihood of record fiscal stimulus -- and a more-than-willing Fed -- actually increasing the money supply (something Fed printing by itself does NOT do) occurring against fractured global supply chains will indeed have inflation, at long last, on the rise.

But then, where I veer from the inflationista's camp is what's going to happen with interest rates. Those who believe as I do (on inflation) tend to believe that interest rates will naturally -- as market forces demand -- increase along with inflation. 

Well, while I get that, and I do suspect we'll -- off and on -- see rates higher than they are currently, the notion that they'll rise to any detrimental degree runs headlong into the Fed.

Here's a snippet from my latest market narrative:

"...the way markets used to work, given the natural forces of supply and demand, such massive borrowing would force the cost of that debt (read interest rates) higher in order to attract willing lenders. Well, of course measurably higher interest rates against a debt bubble for the ages is a scenario that under no circumstances can be tolerated by those charged with saving “the system.”

Enter the Fed: Via commercial bank reserves (banks will buy the newly issued treasury debt with their reserves, the Fed will then buy it [the treasury debt] from the banks, replenishing their reserves), the Fed will in effect facilitate federal government borrowing to the policymakers' hearts’ content.

And the term “yield curve control” will I suspect become all too familiar in the months/years to come. It’s another process wherein the Fed suppresses the long-end of the yield curve (keeps interest rates down) by stepping in and buying existing treasury debt every time the market bids its price lower (yields higher). Essentially becoming the market (largely already is); i.e., the buyer of first, and last, resort for treasury debt."

More on this tomorrow... 


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