seattleSavant.com

(Borrowed from today’s New York Times.)

You need to understand this chart. Our government will be borrowing a trillion or two dollars (about a tenth or a fifth of the entire economic output of the United States in a year). Big, untouchable number? Let’s make it personal.

Start with the dark blue line. This is the annual yield the US Government (i.e. us, the taxpayers) must pay to borrow money for three months, six months, two years, five years, ten years, and thirty years.

As the length of borrowing goes up, the yield the government must pay goes up. Makes sense. If you’re going to tie up the investor’s money for longer, you should have to pay more:

a. If the economy does better in the future compared to right now, interest rates are likely to go up. Therefore, convincing investors to give up their money now, for a long period of time, means you have to do a bit of bribery and pay a higher yield. (This is the optimistic interpretation.)

b. If investors think the long-term financial health of the US is at risk, they’ll expect to be paid to accept this risk of a long-term investment in government treasury securities.

But what’s making the yield curve today so much more steep?

The yield on a 3-month bond is paltry–perhaps even less than the current rate of inflation. A yield like this makes the 3-month (and even the 6-month) bonds the equivalent of the big global mattress, where everyone is stuffing their cash–not to make it grow, just to keep it from being lost.

We can see how spooked global investors are. Whatever money there is to be invested right now, much of it is going to the big mattress of treasury bonds, driving the yields down–particularly in the short term. This is the investment of last resort, and a surprising number of people are using it.

A year ago, the curve was really flat. (Look at the gray line at the top of the chart.) Flat–or inverted curves where yields are higher for shorter term commitments–often proceed times of economic upheaval.

Looks like people are still lending money to the US government for now. Maybe because they think things will get better soon. If the cost of long-term debt starts creeping up, it might be because they think it’ll be much much worse in a few years. Should be fun to see which proves to be true.

Or, to quote our fourth branch of government, Dick Cheney, “Reagan proved deficits don’t matter.” We’ll all see, Dick.