I had a really interesting conversation today...with someone who fancies himself an expert on just about everything. He plays a prominent role in investment strategy in his position, and a week or so back I corrected him on his belief that the various QE programs cause interest rates to go down. I said, no, actually, the two prior iterations saw rates for bonds on the long end go up. And if QE3 came down the pike, I would expect more of the same.
Well, fast forward to today, I pointed out to him that bond rates for the 10 and 30 had moved up a lot in the past 3 weeks, perhaps signalling expectations of something out of the Fed soon. He considered it and let it be. Later on, he revisited the conversation with me to get my read on why it was happening, and how it seemed to undermine the Fed's stated goal with these programs.
My response: it's not really about rates, it's about inflation expectations. The boogie man is deflation, so stimulus programs to ward it off are meant to engender the opposite. And with that comes higher expected returns, spurring investment, wage growth -- ultimately, higher demand. He seemed to accept that logic.
The part that I didn't mention, but which also might be true, is that we're getting closer and closer to the point where the Fed starts to lose control of interest rates. And that's when it really gets interesting.
