I believe the Fed will drop rates and soon. Although it won’t be pleasant.
Yes, foreigners (China and Japan, mostly) will buy short-term paper with (even) lower yields. And they’re still buying our longer-term paper with crappy yields that are barely above short-term yields. Why, Grasshopper, why? I’ll explain…
Yes, by all rights, our currency should continue its descent into the crapper. But remember that it takes two to tango. And the governments of China and Japan (etc.) need to export goods to the United States of Spend-ola – we’re by far their largest market. Consequently, there will be enormous political pressure for them to keep their currencies from appreciating too much relative to the dollar and thus curtailing exports. At the end of the day, these governments would rather hold a bunch of low-yielding paper and keep their economies humming along rather than practice “prudent investing” and watch their export-driven economies implode. It’s a trade off and history suggests which route they’ll take (that is, the one I’ve just described).
So, look for the Fed to lower rates to 3% or so over the next two years. Look for our currency to depreciate but not implode. Look for domestic-driven inflation to fall (due to housing and its ripple effects) but for import inflation to rise, albeit not dramatically. [Net/net “real” inflation (as opposed to the “make believe” inflation number the government provides to us) may actually decline a bit over the next few years.] And look for long-term rates (and long-term mortgage rates) not to move a whole lot – give or take 75 bps in either direction.
Just my two cents, of course. And worth exactly what you paid for it.
