Daily Economic Update: February 21, 2024

Today brings FOMC Minutes, Fedspeak, and a 20Y Treasury Auction and NVDIA earnings.

Yesterday was an overall a light news day, though stocks fell being led down by tech names, and yields rose slightly. 

To fill the void of no major economic date, I'm sharing a couple of recent post that caught my attention. 

The first being the Treasury Basis Trade, a topic you can google, but the trade leads to some concerns over Treasury market stability and resilience, a topic that was highlighted in Darrell Duffie's paper at Jackson Hole. 

Probably one of the better reads on the Treasury basis trade in a post by Steven Kelly here.  In discussing the article professor Brad DeLong wrote the following: 

The remarkable continued profitability of the Treasury Basis Trade tells us that the U.S. Treasury has profoundly misjudged what kinds of Treasury securities that market really wants to hold. Hedge funds are filling in the gap via a maturity transformation that substantially shortens the effective duration of Treasury-created assets—and are making an awful lot of money by doing so. What is the Treasury gaining by issuing long-term debt that Hedgies immediately transform into short-term debt? It is moderating the impact of short-term moves in interest rates on its monthly funding reports. Is that gain worth handing the profits for effective money creation over to Hedgies (and possibly creating some systemic risk in the case that the Hedgies get overleveraged and so out over their skies?).

We're all familiar with the Federal Deficit, but I thought this was next level thinking of one potentially overlooked ramification is whether attempts to raise revenue might mean ending some programs that many people are familiar with, like 401K's.  Per Allison Schrager's latest piece

I give the 401(k) another 10 years---tops.

Don't get me wrong. I love retirement accounts, and I think we'll still have them. But the tax treatment has a shelf life. It is expensive, mostly benefits the wealthy, and there is not much evidence it gets people to save more.

If it does not change behavior, people won't miss it so much, which means it is easier to get rid of instead just increasing taxes. And the government needs revenue. So say good buy to the tax deferral.

 You can also find my post about Allison's book here.

And of course we're all focused on what the Fed will do next and Scott Sumner shared his thoughts in a recent post.  In addition to expressing his views that in an efficient monetary policy system, he provides the following:

The Fed has now set rates at a level expected to produce a soft landing. If they overestimated the natural rate of interest they might deliver a hard landing, and if they underestimated the natural rate we might get no landing at all. In the latter case, inflation might stay stubbornly above target, requiring further rate increases.

Two years ago, almost no one correctly forecast the recent path of interest rates. The same could be said about interest rate forecasts in early 2020, or early 2019. I don’t know what will happen to rates over the next two years, but I have very little confidence that things will play out in the way the markets or the Fed currently expect. There could be surprises in either direction.

I see people cherry picking some obscure inflation metric which has hovered around 2% for 6 months. But price inflation is not the right variable to look at. In order to have lower interest rates, we need a slowdown in wage inflation and NGDP growth. If wage inflation gets stuck at 4.5%, then interest rates are headed higher. I still think it’s likely that wage inflation will slow, but recent price inflation moderation doesn’t reassure me at all.

In an efficient monetary regime (NGDPLT), policy errors in either direction would be equally bad. But we don’t have level targeting. In addition, recent policy errors have been in the direction of an excessively expansionary policy. For that reason, the damage from a somewhat overly expansionary policy in 2024 would be greater than the damage from a somewhat overly contractionary policy in 2024. The longer that wage inflation stays elevated, the more difficult it will be to bring it down.

XTOD: Inflation may be turning upwards, but cuts are still coming. The Fed views the world through the lens of real rates, and believes r* is unchanged post-pandemic. They may be overestimating the restrictiveness of policy, but that just means fewer cuts.

XTOD: Should you put all your savings into stocks? @BarryNalebuff  & Ian Ayres: Yes, with leverage!

@CliffordAsness : No!

XTOD (reply from Cliff Asness): If you are unwilling to lever you can at least have an interesting argument.  But if you’re willing to lever, to choose only equities vs a more diversified portfolio is hard to imagine.  https://aqr.com/Insights/Perspectives/Why-Not-100-Equities

XTOD: Life is a series of tradeoffs, and greater results usually require greater tradeoffs.  The question is not, “Do you want to be great at this?”  The question is, “What are you willing to give up in order to be great at this?

XTOD: Simply, the decision to buy is always yours. The decision to sell isn't.

https://x.com/FedGuy12/status/1759977606223372368?s=20

https://x.com/florianederer/status/1760041221307736531?s=20

https://x.com/CliffordAsness/status/1760073000144032170?s=20

https://x.com/JamesClear/status/1759987528424173922?s=20

https://x.com/nntaleb/status/1760013485826826629?s=20