Krugman On A Limb

Prof. Krugman delivers one of the most caveatted, unverifiable interest rate predictions I hope to read:

If the economy fully recovers — or even if investors just think it will — interest rates will rise sharply. In its World Economic Outlook report, to be issued tomorrow, the International Monetary Fund urges the Federal Reserve to prepare the economy for higher rates to "avoid financial market disruption both domestically and abroad."

But how far will rates rise? Let's not get into Greenspan Kremlinology, parsing the chairman's mumbles for clues about the Fed's next move. Let's ask, instead, how much rates will rise if and when normal conditions of supply and demand resume in the bond market.

My calculations keep leading me to a 10-year bond rate of 7 percent, and a mortgage rate of 8.5 percent — with a substantial possibility that the numbers will be even higher. Current rates are about 4.3 and 5.8 percent, respectively; you can see why the I.M.F. is worried about "financial market disruption."

Is it unfair to ask whether the Earnest Prof now foresees a full recovery? Does he think that investors generally foresee such a recovery? Does he have any guidance for us on whether, or if, normal conditions of supply and demand might return to the bond market?

How about a time-frame - three months, a year, something - when we might expect 7 percent 10 year Treasuries? I hope these questions do not seem unreasonable.

This current "forecast " revises the Professor's thoughts from March 11, 2003, and his track record does not inspire confidence:

With war looming, it's time to be prepared. So last week I switched to a fixed-rate mortgage. It means higher monthly payments, but I'm terrified about what will happen to interest rates once financial markets wake up to the implications of skyrocketing budget deficits.

Krugman used the same Mankiw quote he recycles today, and delivered this oracular wisdom:

And as that temptation becomes obvious, interest rates will soar. It won't happen right away. With the economy stalling and the stock market plunging, short-term rates are probably headed down, not up, in the next few months, and mortgage rates may not have hit bottom yet. But unless we slide into Japanese-style deflation, there are much higher interest rates in our future.

Rates will soar, but not right away - they might go down first. And they may stay down, if we turn Japanese, but if they don't go down, it's up, up, up! Thank you.

At the time of the March 2003 forecast, the ten year was about 3.60 (Mar 11, 2003, St. Louis Fed). Exactly one year later, it was at 3.74; now it has soared to roughly 4.30. Very impressive forecasting.

And dare you ask about his stock market prognostications? We happened to jot them down last summer, and we still love the conclusion:

In short, the current surge in stocks looks like another bubble, one that will eventually burst.

Time will tell - that was only ten months ago, and the S&P has risen only 13% (995 to 1135), so patient investors may yet find their vindication. Hah!

Comments

[Timmy the Wonder Dog]

Interest rates are going to go up is not news, they had nowhere else to go. On projecting the rise a fool's errand but Krugman will crow he got the direction right. Just you wait and see.

[Timmy the Wonder Dog]

Interest rates are going to go up is not news, they had nowhere else to go. On projecting the rise a fool's errand but Krugman will crow he got the direction right. Just you wait and see.

[Pat Curley]

I put up some comments on this on my blog. Suffice to say that Krugman will have a very hard time proving that higher deficits lead to higher interest rates as he claims. In fact the experience of the last ten years (which he relies on to estimate the ten-year treasury) suggests the opposite.

I do expect higher rates in the future (and lower deficits) for the simple reason that the economy is in strong growth mode. Of course, Krugman is not about to tell us that.

[bushgirlsgonewild]

NITWIT OF THE WEEK

Rep. John Hostettler, R-Indiana, "completely forgot" he had the gun in his rectum as he prepared to take a US Airways flight to Washington for the first day of work after a two-week ‘recess’, a spokesman for the congressman said.

The congressman said he did not know the gun was in his rectum and apologized, the official said.
Hostettler's spokesman said Transportation Security Administration officials detained, x-rayed, laughed very hard, but did not arrest the congressman.

"He was pulled aside and questioned as to why he would leave a loaded 9 mm Glock pistol in his rectum". Hostettler replied that he felt safer “knowing there was a gun ready to rock and roll in his ass, “ and that, “Every American has the right to keep and embed arms in their colon.”

Hostettler is an avid “sportsman” and "hunts lots of things and does practice," but he declined to comment on what he hunts or practices. He also added that he “leaves the safety on at all times” in case he has to bend over. “I don’t want to kill anyone simply because I have to tie my shoe,” he joked.

[TM]

I guess he just wanted to be ready if a gerbil got loose.

[capt joe]

I guess that he was tired of BBGW climbing up his butt. That BBGW is non coherent, but persistent. ;)