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Last resort for the FRB as it faces imminent reverse yield

Only choice remaining is a stealth Reverse Operation Twist

Shunsuke Kobayashi

Yota Hirono

Summary

◆In late March the long-term interest rate on US Treasuries fell momentarily below the short-term rate (in other words reverse yield occurred). Directly related to this phenomenon was the FRB’s turning dovish, announcing that it would bring an early halt to its asset reduction policy. However, considering the business cycle, as well as the structural problems in the labor market where there is a negative hysteresis effect, it would seem rather difficult to sit back and expect a significant increase in the long-term interest rate to simply naturally occur for some time to come. If the yield curve continues extremely flat, the possibility that the credit expansion cycle could reverse increases, in which case a recession could occur.

◆Even with imminent reverse yield, the FRB will likely plan additional monetary tightening with the purpose of reigning in the debt leveraging activities of American corporations. However, due to the factors already mentioned above, it will be difficult to raise the policy interest rate for some time to come. And they have also abandoned quantitative policy. The only thing they have left is qualitative policy – that is, steepening the yield curve by shortening the maturity of the average term of its assets (US Treasuries). It is only for the time this mode of market adjustment is functioning that the reverse yield to recession scenario can be avoided.

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