The common prediction that the Federal Reserve will cut rates as a response to an economic downturn due to high interest rates misses a significant global economic factor: the widespread collapse of major currencies, driven by governments’ heavy spending to fend off recessions. This scenario complicates the traditional narrative of monetary policy response.
Around the world, we’re seeing not just the U.S. but countries like the U.K. facing rising long-term bond yields, even as recessionary signs become more pronounced. This isn’t merely a U.S.-centric issue but a symptom of a broader, global economic strain where countries are caught in a cycle of spending to stimulate or stabilize their economies, thereby worsening their fiscal health.
Wall Street’s maneuvers during recent Fed meetings suggest there might be an attempt to obscure the real economic trajectory. The sell-off of shares could be interpreted as a strategic move to manipulate perceptions of market stability or to prepare for an economic downturn that’s more severe than publicly acknowledged.
The distinction between short-term and long-term bond yields is critical here. Quantitative Easing (QE) often targets short-term bonds to lower immediate borrowing costs, but the true indicator of economic health and investor confidence is in long-term yields. These can rise even as short-term rates are manipulated downwards, signaling investor concerns about future inflation or economic stability. The rise in long-term yields, despite QE, suggests that markets are pricing in the risk of sustained fiscal irresponsibility and potential currency devaluation.
Japan’s situation is a case in point. Despite prolonged QE and negative interest rates, there’s increasing pressure on long-term yields, indicating market anxieties over long-term fiscal sustainability and the effectiveness of monetary policy to combat deflation or stimulate growth without stoking inflation.
The logic here is straightforward: as economies weaken, governments tend to increase spending, either to stimulate growth or to mitigate economic contraction. This spending, especially if not matched by tax revenues or economic productivity, leads to higher debt levels, putting downward pressure on currencies and upward pressure on long-term bond yields. Investors, anticipating inflation or currency devaluation, demand higher yields for the increased risk.
Thus, the expectation that cutting rates will automatically lead to economic recovery overlooks the complex interplay of global fiscal policies, currency stability, and investor confidence. In this scenario, central banks might find traditional monetary tools less effective, facing a dilemma where easing might not be enough to counteract the broader economic forces at play.
This analysis suggests a need for a more nuanced understanding of how global economic conditions, currency stability, and fiscal policy interact in shaping the future of interest rates and economic health.
Global bond selloff….. treasuries yields are now at 5% pic.twitter.com/RjqeGA1Bpp
— The Long View (@HayekAndKeynes) January 13, 2025
When Joe Biden and Janet Yellen arrived in January 2021, they had $1.6 trillion in cash in the US govt bank acct.
They are leaving Trump with only $600 billion and the debt ceiling preventing Trump's administration from borrowing anything.
This was done intentionally. Yellen… pic.twitter.com/vd1yWD4Uod
— Wall Street Mav (@WallStreetMav) January 13, 2025
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