This much we know: In recent weeks interest rates on long-term Treasury bonds and notes rose sharply. On that point, there can be no dispute. But in the politicized world of economic analysis, the interpretation of the data is hotly contested.
One one side, rising bond yields are taken as evidence that bond investors are afraid rising government deficits and the Federal Reserve’s expansive monetary policy will lead to inflation. Conservatives have jumped on this point to argue that the country can’t afford President Obama’s big-spending agenda.
In rebuttal, most eloquently executed this week by the Financial Times’ Martin Wolf, we have the observation that what we are really witnessing in the bond market is a cheering return to normality.
The jump in bond rates is a desirable normalization after a panic. Investors rushed into the dollar and government bonds. Now they are rushing out again. Welcome to the giddy world of financial markets.
Who who is right? How about both sides? Bond investors are not the Borg. Presumably, decisions made on where to invest one’s money reflect a variety of motivations — some investors may be afraid of inflation, some might be hungry for more risk. The temptation to interpret each sharp swing of the market as an ultimate referendum appears irresistible in our always-on, every-basis-point-blip-deserves-its-own-blog-post world, but real life is a lot messier.
Federal Reserve Chairman Ben Bernanke updated Congress on the state of the economy Wednesday. The headline blasted out by nearly every news service was “Bernanke Urges Deficit Reduction.” That would seem to put him squarely in the rising-bond-yields-are-freaking-me-out category. But what he actually said was more nuanced.
However, in recent weeks, yields on longer-term Treasury securities and fixed-rate mortgages have risen. These increases appear to reflect concerns about large federal deficits but also other causes, including greater optimism about the economic outlook, a reversal of flight-to-quality flows, and technical factors related to the hedging of mortgage holdings.
Get that? Yields are rising because of “concerns” and “optimism.” Because we are simultaneously less confident and more confident about the future. Seems kind of hard to draw any definitive conclusion from that analysis.