Rising interest rates threaten to choke off economy

Freddie Mac reported today that 30-year mortgage rates have hit 6-month highs.

(Bloomberg) -- Fixed U.S. mortgage rates jumped to the highest level this year, signaling the Federal Reserve’s plan to lower borrowing costs has stalled.

The average 30-year rate rose to 5.29 from 4.91 percent a week earlier, Freddie Mac, the McLean, Virginia-based mortgage buyer, said today in a statement.
...
“That’s quite a jump,” said Donald Rissmiller, chief economist at New York-based Strategas Research Partners. “The more rates go up, the more we need home prices to go down to equalize consumers’ payments. It’s those payments that have brought about a level of stability in housing unit sales.”

This is despite, or maybe because of, the Fed's massive monetization of bonds. The interest rate of 10-year Treasuries and Fannie Mae mortgage bonds are higher now than when the Fed began its intervention in the market.

Fannie Mae and Freddie Mac are government-chartered mortgage companies that are being supported by $400 billion of backup taxpayer capital. The Fed has bought a net $507.1 billion of mortgage bonds so far, including $25.5 billion in the week ended May 27, according to Bloomberg data.

After Fannie and Freddie were nationalized, our Asian creditors became net sellers of those agency bonds. However, this doesn't explain why Treasury rates are higher.

What does explain it is the massive deficit spending around the world.

As governments worldwide try to spend their way out of recession, many countries are finding themselves in the same situation as embattled consumers: paying higher interest rates on their rapidly expanding debt.
...
Even a single percentage point increase could cost the Treasury an additional $50 billion annually over a few years — and, eventually, an additional $170 billion annually.

This could put unprecedented pressure on other government spending, including social programs and military spending, while also sapping economic growth by forcing up rates on debt held by companies, homeowners and consumers.

“It will be more expensive for everybody,” said Olivier J. Blanchard, chief economist of the International Monetary Fund in Washington. “As government borrowing in the world increases, interest rates will go up. We’re already starting to see it.”

Since the end of 2008, the yield on the benchmark 10-year Treasury note has increased by one and a half percentage points, rising to 3.54 percent from 2 percent, the sharpest upward move in 15 years. Over the same period, the yield on German 10-year bonds has risen to 3.57 percent, from 2.93 percent. And British bond yields have increased to 3.78 percent, from 3.41 percent.

It's simply a matter of supply and demand. The more debt that nations issue, without an increase in demand, means the price of that debt falls. In the bond market, price and interest rates are directly inversely related.
The governments of America, Britain, Japan, and elsewhere have tried to compensate for that dearth in demand by monetizing the debt. However, that caused the other supply and demand problem - more money printing without more goods means the value of the currency drops.

In 2009 and 2010, Washington will sell more than $5 trillion in new debt, according to Citigroup. A decade from now, according to the Congressional Budget office, Washington’s outstanding debt could equal 82 percent of G.D.P., or just over $17 trillion.
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“It’s an exaggeration of course, but it’s a little like what happened to the subprime borrowers,” Mr. Rogoff said. “People are just assuming the funding will always be there.”

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The World is Printing Money as fast as it can

Mobius Says Money Supply around the Globe Exploding.

What do you mean bonds have been monetized for Bernanke just yesterday claimed they were not.

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Higher interest rates - higher than pre-crisis levels

may cause huge problems for the Feds huge portfolio especially all of its purchases through Maiden Lane.

The Fed may have tied its hands and spent itself.

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You mean printing money

is not the way to prosperity and return to normalization of the economy?

One cannot create debt without limits?

But, but, but .... what about my PhD thesis? All those years at Princeton wasted? Should have went to more keggers.

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I'm a little confused here

I'm guessing this refers to Bernanke's testimony to Congress. What was he supposed to do, channel Dick Cheney and say "Deficits don't matter"? Channel Alan Greenspan and say "Mumble mumble nonsequitur jargon mumble"? Pull out a magic wand? Clearly there are no good options now, not even middling bad ones. (Well, there's one good option -- significant increase to top marginal tax code -- but that's not going to fix the problem by itself.)

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Here is a suggestion to address the demand for treasuries:

1) Make interest on Treasuries tax-exempt - foreign investors such as China don't pay taxes on interest.

2) Make Treasuries easier to purchase - I know there is treasurydirect.gov - but something even easier - almost like making them available at post offices or grocery stores - make as easy as buying a saving bond.

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My fist emotion thought was

God, I ain't buying any U.S. treasuries, they already got me on the hook for $12 trillion dollars.

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I know but

they are relatively risk-free and you get a return on your money.

Let me think this through (I am tired and not thinking clearly) but if tax-exempt it could be a hedge against taxes.

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Why all the hand wringing hair on fire NOW?

Things are severely broken and there is no easy way out. The way I see it we have basically two options:

1. Stimulus with money we don't have. Deficits go up, we're under a crushing debt load for the foreseeable future, it's going to be a long hard slog to recovery.

2. Do nothing, or try fiscal austerity. We get a deflationary spiral, people out of jobs and failed businesses don't pay taxes, revenues drop, deficits go up, we're under a crushing debt load for the foreseeable future, it's going to be a long hard slog to recovery. Especially without jobs. (Unless of course, you have enough cash to pick up distressed assets for pennies on the dollar.)

So why are Bill Gross and company in such a lather NOW? If they're so concerned about their long term prospects why didn't they erupt in arms when Greenspan kept interest rates so low for so long? When Bush cut instead of increased the top marginal tax rates? When Cheney said "Deficits don't matter"? Why were they piling into derivatives and derivatives of derivatives?

Why is Congress so concerned about deficits NOW? Why are all the pundits and the WSJ and CNBC and the rest of the financial media prophesying gloom and doom NOW? And why do they have ANY credibility?

It's all great to be worried about the structural problems caused by asset bubbles and massive deficits, but that ship sailed a long time ago. "The moving finger writes/And having writ moves on" and all. The less we pay attention to the people who got us into this mess the sooner we can get to the job at hand.

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I must laugh

for it is fairly amusing that there is this aghast at the deficits considering how they lobbied Congress to do them not 6 months ago.

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This is just a guess

But they are most likely making warnings now because they don't want to be accused of saying nothing before it all blows up.
When solutions to the problems were easy they were against them. When solutions to the problems were difficult they were too busy making money to be bothered.
Now that there are no real solutions they are shouting warnings so that they can say "I told you so" later on.

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I looked over at the middle column

When reading your comment and there is Angry Bear with a "I told you so" post.

I was thinking they are going after SS and any Medicare/Medicaid to deny benefits. They have been after any social safety net for decades, managed to wipe out retirement and that's pretty much all that is left.

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I told you so, and social security

Thanks Robert for the mention. Waldmann says told you so, see the link to the right. Bruce Webb and coberly have a real plan, The Northwest Plan, that takes care of the hyperbole from Peterson and his groups regarding Soc. Security.

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Hey Rdan

Welcome to EP. We are linking to Angry Bear but if you wish to cross post something on the Northwest Plan, please do.

Although I have read through a lot of the Peterson group's stuff and frankly they don't seem to be hitting social security, it's Medicare and that's real. At least David Walker continually mentions social is basically solvent.

Although it's clear there is an attack coming from somewhere on SS, but if you are thinking of I.O.U., I didn't see that and even pulled out clips where they talk about it not being insolvent.

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