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Strategies & Market Trends : The Epic American Credit and Bond Bubble Laboratory -- Ignore unavailable to you. Want to Upgrade?

To: mishedlo who wrote (36450)	7/21/2005 12:47:24 AM
From: ild	Read Replies (1) \| Respond to of 110194

Greenspan's Comments Suggest `Conundrum' Is Conundrum No More July 21 (Bloomberg) -- Alan Greenspan's conundrum may be a mystery no more. The Federal Reserve chairman yesterday told Congress that long-term bond yields fell even as short term rates more than tripled over the past year because global savings are exceeding investment, inflation expectations are low and the world economy is stable. Before yesterday, he had rejected several theories for the so-called flattened yield curve, a situation he termed a ``conundrum'' in February. ``Greenspan has answered his own conundrum,'' Bill Gross, chief investment officer at Pacific Investment Management Co. in Newport Beach, California, and manager of the world's biggest bond fund, said in an interview. The flattened yield curve ``surely reflects an excess of intended saving over intended investment,'' Greenspan said in testimony yesterday before the House Financial Services Committee. The lower yields also ``can be ascribed to expectations of lower inflation, a reduced risk premium resulting from less inflation volatility and a smaller real term premium that seems due to a moderation of the business cycle.'' Greenspan is scheduled for a second day of testimony today, this time before the Senate Banking Committee starting at 10 a.m. Washington time. As the Fed raised the overnight bank lending rate to 3.25 percent from 1 percent at nine consecutive meetings since June 2004, the yield on the 10-year Treasury security has fallen more than 50 basis points, to 4.16 percent yesterday. The yield fell as low as 3.89 percent on June 1. Greenspan's Explanations Speaking by satellite to a Beijing conference in June, Greenspan trotted out and then dismissed several potential explanations. Among those theories was that low long-term bond yields were signaling economic weakness, or that foreign central bank purchases were holding down yields. Greenspan's explanation yesterday ``was as good as any I've seen,'' said Stephen Stanley, chief economist at RBS Greenwich Capital in Greenwich, Connecticut. ``His question in February was, `Why are long-term rates so low?' -- suggesting that investors have a weak outlook at the same time that risk spreads are unusually low, which points to a sanguine outlook.'' ``He went away from that in June, essentially throwing his hands in the air and saying, `I don't know why,''' Stanley said. Pimco's Gross said Greenspan partly accepted the thesis of former Fed Governor Ben Bernanke that a ``global savings glut'' is lowering long-term yields. Bernanke in March said excessive savings were flowing into the U.S. and paying for investment and consumption, aggravating the U.S. current account deficit. `Secular Phenomena' ``As long as this secular phenomena continues, and it probably will for years and years, interest rates will be permanently lower than they ordinarily would have been,'' Gross said. Bernanke is now chairman of President George W. Bush's Council of Economic Advisers and has been mentioned by economists as a possible successor to Greenspan, 79, whose non- renewable term as a governor ends Jan. 31. Greenspan said yesterday that excess savings -- or the high ratio of savings to investment demand -- are also pushing down long-term bond yields because there is a greater supply of savings to demand. As part of the new theory, he suggested low inflation and excess saving for investment are longer-term trends that have pushed down long-term yields for the last decade; the lower risk premiums demanded by investors account for an acceleration of the fall in long-term rates in the last year. Risk-Taking ``Risk-takers have been encouraged by a perceived increase in economic stability to reach out to more distant time horizons,'' Greenspan said. ``History cautions that long periods of relative stability often engender unrealistic expectations of its permanence and, at times, may lead to financial excess.'' ``In other words, low volatility had encouraged excessive risk taking in the fixed income market,'' said Chris Low, chief economist at FTN Financial in New York. Long-term rates are continuing to stimulate the economy, in part by keeping mortgage borrowing costs low, Greenspan said earlier this month in a written response to questions from New Jersey Rep. James Saxton that was released this week. That has made conducting monetary policy more difficult for the central bank, which is trying to rein in economic growth and prevent rising inflation by boosting the overnight bank lending rate. ``If long term interest rates go down while short-term interest rates are going up, it means much of the impact of rising short-term interest rates was blunted,'' said former Fed Governor Lyle Gramley, now a senior adviser at Stanford Washington Research Group. Said William Niskanen, a former member of the Council of Economic Advisers under President Ronald Reagan who is now chairman of the Cato Institute, a Washington group that embraces free markets: ``There doesn't seem to be any particular effect of the Fed funds rate on longer term market rates, and it's the longer term market rates that primarily drive borrowing and savings decisions.''