Lorie Logan of the Dallas Fed gave a recent speech in which the term premium figured. Although I think Logan’s remarks are fairly innocuous, I saw some chatter that extended to a “oh no, fiscal!” story.
In the speech, Logan ran through the difficulties with measuring the term premium, and various approaches to the topic. She concluded with:
So, what does this mean for monetary policy? As I said earlier, inflation remains too high, the labor market is still very strong, and output, spending and job growth are beating expectations. I anticipate that we will need continued restrictive financial conditions to return inflation to 2 percent in a timely way and sustainably achieve our goals of maximum employment and price stability.
Financial conditions have tightened notably in recent months. But the reasons for the tightening matter. If long-term interest rates remain elevated because of higher term premiums, there may be less need to raise the fed funds rate. However, to the extent that strength in the economy is behind the increase in long-term interest rates, the FOMC may need to do more. [Emphasis mine] So, I will be carefully evaluating both economic and financial developments to assess the extent of additional policy firming that may be appropriate to deliver on the FOMC’s mandate.
I noted in a recent post that one of the joys of term premium models is that by decomposing yield changes into two components, it is a lot easier for commentators to spin yarns about what they mean. This speech provides yet an other example of this. For a boring person like myself who believes that the term premium is small and stable, the recent rise in yields is just the market partly throwing in the towel on a recession call. However, with term premia, we get more ways to interpret what happened. Having more ways to interpret the past does nothing useful for anyone attempting to forecast markets, but it is useful for commentators who want to push narratives.
One of the interesting parts of the speech is that Logan only referred to the rise in Treasury yields, and threw the inversion of the curve under the bus. Apparently, market forecasts indicating that the Fed has already made a policy mistake are not popular in Dallas.
Trying to turn an alleged recent rise in the term premium — which other commentators have tried — is an example of fiscal conservatives being desperate for material. It is extremely hard to see why anyone in their right mind should be concerned about long-term yields that are trading below the overnight rate. Furthermore, saying that there are long-term implications from the change in the term premium over the past few months is a stretch. If it is that erratic, why not just wait a few months to see whether the model changes its mind?
I have not been publishing much recently as I was first visiting family and then had relatives from overseas visiting. I should be back to a more normal schedule after this week.
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(c) Brian Romanchuk 2023
