Fed rate cuts can’t stop long-term rates from rising
Posted by ecoshift on February 25, 2008
Interest rates: The new conundrum
By Chris Isidore, CNNMoney.com senior writer
February 25 2008: 8:25 AM EST
NEW YORK (CNNMoney.com) — The Fed has lowered short-term interest rates this year but longer-term bond yields have risen. Call it the new conundrum. And it’s adding to the confusion on Wall Street about the economy.
In his final year as chairman of the Federal Reserve, Alan Greenspan repeatedly talked about a “conundrum” in the markets. He was referring to the fact that rates for the 10-year U.S. Treasury and 30-year mortgages remained low even as the Fed jacked its key short-term federal funds rate from 1% to 4.5%.
This conundrum didn’t go away after the Maestro retired either.
By the time Greenspan’s successor Ben Bernanke was done raising rates in June 2006, the yield on the 10-year Treasury stood at 5.22% while the federal funds rate was at 5.25%
What’s more, the 10-year yield was only 0.6 percentage points higher than where it was when the rate hikes began two years earlier. The average 30-year fixed rate mortgage had risen by less than a half-point.
These low long-term rates helped fuel the home building boom and the credit market’s appetite for securities backed by increasingly riskier mortgage loans. And it arguably put the economy into the trouble the Fed finds itself dealing with today.
So starting last September, the Fed started trimming rates. And last month, it slashed rates, with two cuts totaling 1.25 percentage points in a little more than a week.
But long-term rates are once again moving in the opposite direction of the Fed: the yields on the benchmark 10-year Treasury note and fixed-rate mortgages are higher now than where they were in late January. This could add to pain in the housing market…or be cause for optimism. It depends on who you ask.