31 January 2006

Federal Debt Details

The federal government borrows money on all sorts of terms. The Federal Reserve sets rates on the shortest term obligations and just raised the symbolic overnight federal funds rate to 4.5%. The ten year bond rate is 4.53%. This is a record small spread of just 0.03%; usually the ten year bond is well above the short term rate (on the theory that you can lock in a long term return which might go down and because you have tied up money with the federal government for you, or your successor in interest, for a longer period of time).

The questions are (1) when will the historical spread return (this is such an anomolous situation it is hard to see it being sustainable), (2) why is this spread so narrow now (is Greenspan simply taking political heat for his successor beyond reasonableness, or does the market believe that long term interest rate prospects look bleak as the economy slows), and (3) if a historical spread returns will long term rates go up (and hence crimp the mortgage market which tracks ten year bond rates) or will short term rates fall (in turn reducing the prime rate and priming the pump of consumers influenced by adjustable rates and credit card terms)?

The Treasury Department has also, after a long hiatus, started issuing 30 year bonds again, because, well, the United States government is broke and spending like a drunken sailor and we need to issue every possible kind of debt.

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