I confess that I am having a hard time understanding Marty Feldstein's latest column…
To paraphrase, the argument as I see it seems to go as follows:
"Banks and investors are currently paying much more than the fundamental value for long-term treasury bonds."
"Therefore the Federal Reserve needs to raise short-term interest rates now and keep them higher than it would otherwise." But why? Raising short-term nominal rates reduces the fundamental value of long-term Treasuries, And if Treasury prices normalize before maturity increases the losses that long-term Treasury holders will suffer. If the big problem is that Treasury bondholders are going to suffer losses, why does increasing those losses help? Moreover, higher interest rates increase unemployment. Surely, given the current elevated level of inemployment increasing unemployment is the last thing we should do.
"And the Federal Reserve needs to sell off the long-term Treasuries it was planning to hold to maturity." But again why? Selling off long-term Treasuries will force them to be held by those who value them less, and increase the capital losses that those currently holding long-term Treasuries but planning to trade them rather than hold them to maturity will suffer.
"To the extent that banks and other highly leveraged financial institutions hold long-term Treasuries, their forthcoming price decline could cause bankruptcies and financial-market breakdown." But isn't that an argument for (a) the Fed's buying more Treasuries and holding them to maturity in order to diminish banking-sector exposure and thus the risks of financial-market breakdown, and (b) application of much stricter regulatory rules to force banks to exchange hot-money debt liabilities for equity as a funding source so that any price declines are handled well--as in the dot-com crash of 2000-2001--rather than badly--as in the mortgage-backed security crash of 2008-2009.
Marty closes by writing "we may look back on these years as a time when official policy led to individual losses and overall financial instability." But isn't that an argument for doubling down on the current expansionary monetary policy, not backing away from it?
Martin Feldstein:
When Interest Rates Rise by Martin Feldstein: CAMBRIDGE –.
The[sic] three.
The reason for today’s unsustainably low long-term rates is not a mystery. The Federal Reserve’s policy of “long-term asset purchases,” also known as “quantitative easing,” has intentionally kept long-term rates low. The Fed is buying Treasury bonds and long-term mortgage-backed securities at a rate of $85 billion a month, equivalent to an annual rate of $1,020 billion. Since that exceeds the size of the government deficit, it implies that private markets do not need to buy any of the newly issued government debt.
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