How Central Bank Policy Impacts Asset Prices Part 2: Bonds

Tyler Durden's picture

The Fed sees the need to reduce interest rates as it takes over the US Treasury and MBS markets; but the ECB's actions are more aimed at reducing divergences between peripheral nations and the core. As SocGen notes, it remains unclear how and when the Fed would exit this situation and in Europe, bond market volatility remains notably elevated relative to the US and Japan as policy action absent a political, fiscal, and banking union remains considerably less potent.


Via SocGen:

Fed action pushes rates to record lows

The Fed bought around $2tn of securities since November 2008, pushing rates to historical lows (US treasuries becoming popular safe havens also contributed to lowering rates).

It remains unclear how and when the Fed would exit this situation. Operation Twist expires at year-end and any extension seems to be put on hold until after the presidential elections.

A potential Romney victory could bring an end to low QE rates in 2014 (when Mr Bernanke’s term expires).

As a result of the very low rate environment, the US equity risk premium is currently extremely high (6.3% in October 2012).

Hurdles in transmission of ECB monetary policy


Yield spreads divergence between peripheral countries and the rest of the eurozone illustrates the difficulties the ECB faces in performing its policy in the absence of a political, fiscal and banking union.

Since end-2011, unconventional measures from the ECB have had a significant impact on rates. The launch of OMT could see peripheral rates tighten even further.

However, bond market volatility in the euro area remains high compared to the US and Japan even though it has decreased recently.


Provided that Mr. Rajoy requests a bailout as expected, rate normalisation should continue, especially after Germany’s election in September 2013.


Source: SocGen

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bank guy in Brussels's picture


« ... in the situation of significant national bankruptcy in the Western world there is no other central bank tool other than QE that might have some force to oppose that total disaster ... »

- Jim Sinclair, MineSet

Buckaroo Banzai's picture

"...unclear how and when the Fed would exit"

No exit. It's why they call it an "endgame".

vast-dom's picture

Exactly. Why posit the above? Never can The Fed exit, unless they invent a gas-food-gold-means of production creating machine to go along with their printers.


disclainer: i am LONG nanotechnology.

unununium's picture

No, when inflation spikes we will beg for higher interest rates, just like last time (1980).  Bet on it.

madcows's picture

Inflation is under control.  The government told us it's only 2%.  Completely within the FED's desired target range.

buzzsaw99's picture

damn it feels good to be a banker.

insanelysane's picture

No trading tomorrow.  Maybe we can take time out to study Austrian economics.

insanelysane's picture

No trading tomorrow.  Maybe we can take time out to study Austrian economics.

JustObserving's picture

Talking about Central banks, Sibel Edmonds has this article today:

The Global Banking ‘Super-Entity’ Drug Cartel: The “Free Market” of Finance Capital

I would like to introduce you, the reader, to some realities of our global banking system, resting on the rhetoric of free markets, but functioning, in actuality, as a global cartel, a “super-entity” in which the world’s major banks all own each other and own the controlling shares in the world’s largest multinational corporations, influence governments and policy with politicians in their back pockets, routinely engaging in fraud and bribery, and launder hundreds of billions of dollars in drug money, not to mention arms dealing and terrorist financing. These are the “too big to fail” and “too big to jail” banks, the center of our global economy, what we call a “free market,” implying that the global banks – and corporations – have “free reign” to do anything they please, engage in blatantly criminal activities, steal trillions in wealth which is hidden offshore, and never get more than a slap on the wrist. This is the real “free market,” a highly profitable global banking cartel, functioning as a worldwide financial Mafia.


JR's picture


"It does not require a majority to prevail, but rather an irate, tireless minority keen to set brush fires in people's minds"
- Samuel Adams

Dr. Engali's picture

Markets are closed tomorrow and possibly on Wednesday.....It looks like the bonuses are safe for this month.

I thought after 911 they were supposed to eliminate the closing of trading by establishing back up locations. I guess that didn't quite work out the way it was supposed to.....or did it?

madcows's picture

Where does the FED get the "money" (2 Trillion) to lend to the government?

LawsofPhysics's picture

If you are playing poker and you can't identify the sucker at the table, then it is probably you.

LMAOLORI's picture



With a few strokes on a keyboard they create money out of thin air they are monetizing our debt (or buying our debt). Bernanke denies this..

Fed Chairman Ben Bernanke battled against this view in a speech this week in Indianapolis in which he attempted to dispel doubts about the U.S. central bank's policies, including the belief that it is monetizing debt - printing money for the government's use - which will fan inflation.


"Monetizing the debt means using money creation as a permanent source of financing for government spending," Bernanke said. here


"In contrast, we are acquiring Treasury securities on the open market and only on a temporary basis, with the goal of supporting the economic recovery through lower interest rates. At the appropriate time, the Federal Reserve will gradually sell these securities or let them mature, as needed, to return its balance sheet to a more normal size."

The key word there is temporary, and the key question is: who says?

The market's faith that the Fed will control inflation is now based, at least in part, on its pledge to take the right actions to stem inflation if and when it becomes too high. So far, obviously, the Fed retains the confidence of savers and investors, and indeed it is fighting an uphill battle against money which is moving too slowly around the economy due to a general preference to pay down debt.

Consider the Fed's position if it found itself with its current balance sheet but inflation expectations suddenly become unmoored, an unlikely but possible scenario. Would the Fed really under those circumstances join the market in selling Treasuries, sending interest rates very sharply higher?

Perhaps, but, especially given that it is already a very active and influential participant in the Treasury market, the temptation surely would be to continue to buy Treasuries or to accelerate purchases. There would be all sorts of compelling arguments in favor of continuing to buy debt, and even then under Bernanke's definition it would not be monetization if his intention was to later sell the debt

But Bernanke is full of it; padding-bottom: 4px; background-position: 0% 100%; background-repeat: repeat no-repeat;">Federal Reserve to monetize more debt

WSJ: Fed Buying 61 Percent of US Debt

Over $60,000 in Welfare Spent Per Household in Poverty

madcows's picture

It's a facetious question.

but, to a point it is real.  The FED electronically sends money to the government, who then gives it away to SS, employees, etc...  They send out real checks that don't bounce.  That are used, deposited, etc...

It's not real money though. it's imaginary, electronic dollars.  The FED lent imaginary money to government, who paid everyone with the imaginary money, who then paid their creditors with the imaginary money.  Where did the FED get their imaginary money from?

generally, for a bank to lend money, they must borrow it from the FED or fractionally lend it from their cash reserves.  Of course, this isn't money, it's debt, but to the economist there's really no difference.

So, the joke is who do the FEDs borrow from in order to lend?  Our currency is no more than revolving debt.  Who lends them debt so that they can lend it to someone else?  Which came first the chicken or the FED?  In this case, the FED is both the Chicken and the Egg.  Our money isn't some THING.  It's a FED promisory note.  An IOU.  Our currency is nothing but IOUs in circulation.  If we all went to the bank and asked for our MONEY.  They could only do that for the first 4% of customers.  There is no MONEY, only IOU's.  The government borrowed 2 trillion IOU's.

What I'm waiting for is when our government tells it's bank that it can't repay it's IOU's.

andrewp111's picture

A sovereign currency issuer can never run out of the currency it issues. There is however, no guarantee as to what that currency will be worth 5, 10, 15, or 30 years from now. If the energy markets go into severe decline, real GDP growth will go negative - permanently. That is when we cross the Event Horizon.

marathonman's picture

To be fair, all money is imaginary - even gold and silver.  They just have the attributes of not having counterparty risk and not being printable.