And All of a Sudden I Am More Optimistic than the Bond Market
Yet Another Unforced Error by Barack Obama

Paul Krugman and Ryan Avent Call for Help. It's Not Coming.

Paul Krugman:

Rates of Wrath: Not good news in stock markets — but you really have to look at the bond markets to get the full awfulness of the situation. The US 10-year bond rate is now down to 2.5%… that markets are pricing in terrible economic performance, quite possibly a double dip. And it also says that Washington’s deficit obsession has been utterly, totally wrong-headed. Meanwhile, Italy’s spread against German bonds is soaring even further. What are markets pricing in here? Default as a real possibility; maybe even euro breakup.... Italian stocks are plunging, which tells you that the rate rise isn’t about economic optimism; so are US stocks, which tells you that our rate fall isn’t about optimism regarding US solvency.

So things are falling apart all over. Maybe someone should do something?

Ryan Avent thinksBen Bernanke will do something:

Double dips: Bernanke to the rescue?: WALL STREET is betting on a double-dip recession. All financial-market signs now point to a return to economic contraction. The S&P 500 has dropped 9% in two weeks. American government borrowing costs are plummeting, which could conceivably be construed as a result of increased confidence in America's finances in the wake of the debt-ceiling deal, except for three things: 1) the deal didn't fundamentally improve America's finances, 2) equities are tanking, and 3) so are inflation expectations. Yesterday afternoon, yields on inflation-protected Treasuries signaled a 5-year expected inflation rate of about 2.08%. That has since fallen to about 1.86%. The yield on 3-month debt is back to 0.0%, the yield on the 30-year Treasury is 3.79%, and 10-year yields are back to levels observed last August, which prompted the Fed to engage in QE2. Commodities are dropping like rocks—oil is back below $90 a barrel—except for gold, which continues to hit nominal highs. The dollar is also strengthening….

The good news is this: the Fed can't help but act.... Ben Bernanke may not announce a new policy next week, but I believe he will hint at new Fed easing—potentially at new purchases, but perhaps also at other available tools. The drop in inflation expectations should force the Fed's hand.

Ideally, it will also shake Congress out of its destructive state. Extension of the payroll tax cut and emergency unemployment benefits would improve confidence, reduce projected fiscal tightening over the next year, and ease the suffering of the unemployed. The double-dip is at the door. Only quick action can send it packing now.

I don't think that Bernanke will do anything substantial. Everything I have seen over the past four years is, I think, consistent with the hypothesis that the available stabilization policy tools in a liquidity trap are there but weak: multipliers in the 1 to 1.5 range rather than the 2 to 4 range, effects of quantitative easing on borrowing costs measured in the tens of basis points rather than the hundreds.

If Bernanke wanted to announce inflation or nominal GDP targeting--or announce that he was going to keep expanding the Federal Reserve's balance sheet by $200 billion a month until the recovery was well-established--that would be something significant. He is not going to do that.

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