Down Debt

COLUMN-‘Boring’ 20s’? – a decade of real zero interest rate: Mike Dolan

(The views expressed here are those of the author, columnist for Reuters.)

LONDON, July 16 (Reuters) – The US government can again borrow at a deeply negative “real” rate of minus 1.0% for 10 years – and some economists insist there is a strong historical case for it ‘expect this rate to stay near zero or below for the remainder of the decade.

It’s been all the rage in the markets lately to think of the emergence of another ‘roaring twenties’ over the next decade. Megatrends brought on by pandemics, stormy politics, huge piles of public debt and returning inflation could all conspire to electrify or piss off markets in the years to come – or so we are. tell.

But after a turbulent first quarter of 2021, global bond markets – still under the spell of massive central bank buying – appear to be eyeing a very different scenario ahead.

Even after reading this week’s June reading of the highest annual gain in basic consumer prices in the United States in 30 years – an inflation rate of around 4.5% excluding food and gas prices. energy – the yield on the inflation-protected 10-year Treasury bond fell back below -1.0% for the first time in five months.

Other than that brief moment in February, these rates have never been lower – at least not in the history of these stocks. And all the equivalent rates in the major G4 economies are also below zero, with Germany and Britain even lower than those in the United States.

Investors are looking at everything from ‘peak inflation’ to ‘peak growth’ and even ‘peak stimulus’ to find out why bond yields continue to defy expectations and why they have taken inflation up. and levels of public debt in the wake.

U.S. government debt will exceed 125% of gross domestic product this year and next – its highest level since World War II – and grow nearly 20 percentage points since before the pandemic. Debt / GDP in G4 economies globally increased by a similar amount to 125%.

While many attribute the apparent nonchalance to persistent central bank intervention or technical vagaries, some also point to the risk of a weakening of the “fiscal push” over the next two years that mathematically weighs on rates. growth.

Manulife Investment Management economist Frances Donald thinks this should be seen as a “fiscal cliff” and that the decline in US spending – seen as part of the resulting lower budget deficit – marks the steepest cliff of this type since the 1940s.


However, G7 leaders pledged last month not to make the mistakes of the latest crisis by cutting public spending too soon and reverting to fiscal austerity too soon.

The White House and Congressional Democrats at least appear determined to keep this “high pressure economy” going until all sections of society participate. Leading Democrats agreed this week to table another $ 3.5 trillion investment plan in addition to the $ 600 billion in infrastructure spending already underway.

And yet, the bond market barely wavered at this prospect.

Is it just the hand of the Federal Reserve? Is the Fed buying really that dominant and can it stay that way for years to come?

Fed chief Jerome Powell this week was clearly reluctant to give Congress a specific timetable for cutting bond purchases and continued to characterize spikes in inflation as mostly temporary base effects and bottlenecks. strangulation due to pandemic blockages.

But if the Fed is right about inflation over time and the pursuit of a high-pressure economy is now a G7 consensus because of equality and climate priorities, history shows. that bond yields could fall further here for a long time.

Morgan Stanley economists this week released a study examining 100 years of data on how countries handled debt collapses – defined as periods when debt-to-GDP ratios jumped 20 percentage points in five years .

They concluded that countries that succeeded in bringing these debt levels under control over the next decade had maintained looser monetary and fiscal policies longer than those that failed to stop their rising debt. Low debt servicing costs – in the absence of the inflation problem – and growth have proven to be the best ways to keep debts sustainable.

Looking at all the results, they felt that the most effective strategy was to keep real interest rates two percentage points below real GDP growth rates for 10 years and “wipe out” debt rather than reduce expenses. Fiscal consolidation, on the other hand, played a lesser role in reversing the build-up of public debt over the century, he said.

On this basis, the investment bank saw US real rates hold between -0.5% and + 0.5% for the next decade, or about 2 points below their expected real GDP growth rate.

Even if it is stagnating, it remains higher than today’s rate, even if it assumes a slight tightening by the Fed at some point.

And of course, the lower the growth rate, the lower the real rate must be to control debt. Morgan Stanley said if unfavorable demographics and productivity held back real GDP growth more than it expected, real rates might need to be kept as low as they are today to keep debt from rising.

But he also said that most episodes of successful debt reduction have generally been accompanied by moderate but sustained inflation – a median of 2.9% for those who have successfully reduced their debts. Contrary to popular perceptions, hyperinflation has only occurred in a very small number of episodes.

“Our analysis shows that the real interest rate environment has played a key role in shaping the path of public debt far more than actual fiscal spending.”

Writing by Mike Dolan; Editing by Elaine Hardcastle

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