Negative Real Rates a Strong Recession Warning?

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fanmail
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Negative Real Rates a Strong Recession Warning?

Post by fanmail »

Blog post I saw today. Could be an interesting discussion on what these negative real rates might do to the economy.
https://mishtalk.com/economics/lacy-hun ... on-warning

Excerpt:
Excluding the 1914-20 and the 1939-53 periods from the post 1870 sample still leaves a robust sample of 130 readings. During this lengthy span, cyclical and secular economic conditions resulted in a negative yearly average for real Treasury bond yields twelve times, or just 8% of the time. In the eleven cases prior to 2021, nine of the negative real yield periods coincided with recessions – 1902-03, 1907, 1910, 1912, 1937, 1974-75, and 1980.
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Re: Negative Real Rates a Strong Recession Warning?

Post by alex_686 »

Why do you think they exclude the periods of 1914-20 and1939-53, periods of strong economic growth and negative Treasury rates?

The short answer is that correlations does not equal causations. And that you should not mix up a priori and a posteriori values in your data.

I will grant you that today is a odd period. It is hard to know what the future will bring. However, I think I have a decent, if imperfect, handle on the causes of the current situation. And it is not like the periods that you quote. i.e., we have different casual factors driving rates lower.
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fanmail
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Re: Negative Real Rates a Strong Recession Warning?

Post by fanmail »

alex_686 wrote: Wed Jan 19, 2022 3:23 pm Why do you think they exclude the periods of 1914-20 and1939-53, periods of strong economic growth and negative Treasury rates?

The short answer is that correlations does not equal causations. And that you should not mix up a priori and a posteriori values in your data.

I will grant you that today is a odd period. It is hard to know what the future will bring. However, I think I have a decent, if imperfect, handle on the causes of the current situation. And it is not like the periods that you quote. i.e., we have different casual factors driving rates lower.
The reason given in the article was that there were negative rates frequently during those wartime eras, but not sure exactly why they deserve exclusion. Perhaps when they release the even longer full article, it will articulate better detail why those time frames were excluded from the analysis.
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Re: Negative Real Rates a Strong Recession Warning?

Post by jeffyscott »

fanmail wrote: Wed Jan 19, 2022 3:30 pm
alex_686 wrote: Wed Jan 19, 2022 3:23 pm Why do you think they exclude the periods of 1914-20 and1939-53, periods of strong economic growth and negative Treasury rates?

The short answer is that correlations does not equal causations. And that you should not mix up a priori and a posteriori values in your data.

I will grant you that today is a odd period. It is hard to know what the future will bring. However, I think I have a decent, if imperfect, handle on the causes of the current situation. And it is not like the periods that you quote. i.e., we have different casual factors driving rates lower.
The reason given in the article was that there were negative rates frequently during those wartime eras, but not sure exactly why they deserve exclusion. Perhaps when they release the even longer full article, it will articulate better detail why those time frames were excluded from the analysis.
Since 1870, the starting point of reliable data, only 24 full yearly averages were negative, or just 16% of the 152 readings over this time span.

Detailed parsing of the series reveals that 12 of those occurrences fell in the spans from 1914 to 1920 and 1939 to 1953, both of which were dominated by major military engagements and their subsequent demobilization – World Wars I and II and the Korean War.

So, without the arbitrary exclusion of those years, it's apparently 9 instances of these 24 where a recession followed?

And the current period could. perhaps, be said to be dominated by a major societal engagement against a pandemic and the subsequent demobilization. Perhaps that's similar to the periods supposedly dominated by war.

Korea :?: was that a "major engagement" that dominated the period? Of course it was that for Korea, but for the US? Besides that, US involvement apparently didn't start until 1950 and WWII ended in 1945. Vietnam War was 1964-1975, why is that not just as significant as Korea?
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Re: Negative Real Rates a Strong Recession Warning?

Post by CyclingDuo »

fanmail wrote: Wed Jan 19, 2022 3:17 pm Blog post I saw today. Could be an interesting discussion on what these negative real rates might do to the economy.
https://mishtalk.com/economics/lacy-hun ... on-warning
Oooooo...

You're going down a very, very dark hole reading "Mish". :twisted:
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Re: Negative Real Rates a Strong Recession Warning?

Post by TheTimeLord »

fanmail wrote: Wed Jan 19, 2022 3:30 pm
alex_686 wrote: Wed Jan 19, 2022 3:23 pm Why do you think they exclude the periods of 1914-20 and1939-53, periods of strong economic growth and negative Treasury rates?

The short answer is that correlations does not equal causations. And that you should not mix up a priori and a posteriori values in your data.

I will grant you that today is a odd period. It is hard to know what the future will bring. However, I think I have a decent, if imperfect, handle on the causes of the current situation. And it is not like the periods that you quote. i.e., we have different casual factors driving rates lower.
The reason given in the article was that there were negative rates frequently during those wartime eras, but not sure exactly why they deserve exclusion. Perhaps when they release the even longer full article, it will articulate better detail why those time frames were excluded from the analysis.
Personally I have always thought there are parallels between wartime and a pandemic.
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fanmail
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Re: Negative Real Rates a Strong Recession Warning?

Post by fanmail »

CyclingDuo wrote: Thu Jan 20, 2022 8:26 am
fanmail wrote: Wed Jan 19, 2022 3:17 pm Blog post I saw today. Could be an interesting discussion on what these negative real rates might do to the economy.
https://mishtalk.com/economics/lacy-hun ... on-warning
Oooooo...

You're going down a very, very dark hole reading "Mish". :twisted:
Yeah, I've read a variety of his blog posts, but this was not written by him so thought it was worth sharing.
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Re: Negative Real Rates a Strong Recession Warning?

Post by km91 »

fanmail wrote: Wed Jan 19, 2022 3:30 pm
alex_686 wrote: Wed Jan 19, 2022 3:23 pm Why do you think they exclude the periods of 1914-20 and1939-53, periods of strong economic growth and negative Treasury rates?

The short answer is that correlations does not equal causations. And that you should not mix up a priori and a posteriori values in your data.

I will grant you that today is a odd period. It is hard to know what the future will bring. However, I think I have a decent, if imperfect, handle on the causes of the current situation. And it is not like the periods that you quote. i.e., we have different casual factors driving rates lower.
The reason given in the article was that there were negative rates frequently during those wartime eras, but not sure exactly why they deserve exclusion. Perhaps when they release the even longer full article, it will articulate better detail why those time frames were excluded from the analysis.
I believe during these times the Fed engaged in direct yield curve control and fixed yields at a certain level across the curve to finance the wars and manage the Treasury's interest burden
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Re: Negative Real Rates a Strong Recession Warning?

Post by JackoC »

alex_686 wrote: Wed Jan 19, 2022 3:23 pm Why do you think they exclude the periods of 1914-20 and1939-53, periods of strong economic growth and negative Treasury rates?

The short answer is that correlations does not equal causations. And that you should not mix up a priori and a posteriori values in your data.

I will grant you that today is a odd period. It is hard to know what the future will bring. However, I think I have a decent, if imperfect, handle on the causes of the current situation. And it is not like the periods that you quote. i.e., we have different casual factors driving rates lower.
This is a key point IMO if you mean what I would take from it, that ex-post realized treasury returns were negative real in several cases since 1870. But it's doubtful if ex ante *expected* treasury returns were ever negative before recently. Of course, TIPS didn't exist to see that for most of the period from 1870 to now so you can't prove expected returns were never negative before, but there's little validity in the common statement on this forum 'now's situation is nothing new, bonds have had negative real (pre tax) returns before'. That's comparing apples and oranges. In at least some of those past periods (and probably all of them) the market priced nominal bonds for a positive real expected return at expected inflation but realized inflation was much higher than expected. Now the expected real return is negative, inflation has to be much lower than expected to generate a positive real return (5 yr note 1.62% yesterday 5 yr TIPS -1.11, implied expected inflation 2.73%, inflation has to be only 1.62% to eke out a positive real return on the nominal, it's doubtful IMO if that was ever true before pretty recently, though it's not unusual in other rich country govt bond markets recently).

Negative real *expected* rich country govt bond return is a case where 'it's different this time' appears to actually be true. What it portends is therefore very hard to say by referring to the past.
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Re: Negative Real Rates a Strong Recession Warning?

Post by alex_686 »

JackoC wrote: Thu Jan 20, 2022 1:37 pm This is a key point IMO if you mean what I would take from it, that ex-post realized treasury returns were negative real in several cases since 1870. But it's doubtful if ex ante *expected* treasury returns were ever negative before recently. ... Negative real *expected* rich country govt bond return is a case where 'it's different this time' appears to actually be true. What it portends is therefore very hard to say by referring to the past.
It worse than that for 2 reasons.

First, large swaths of theory had not even been connived of yet. Ideas like bond pricing, "yield curve", monetary theory. Even the concept of inflation was wobbly.

Second, money worked differently then. The majority of time quoted the US was on a quasi-gold standard. This resulted in deflation as often as not. Heck, money works differently today then it did in the 1970s.

So, my theory. In part I think we have the flat yield curve for the same reasons we had one back in the 1950s. There is a huge supply of savings held by risk adverse investors. There is a insufficient supply of safe assets for those investors. Thus long term rates fall.

In part - well - I don't know. I don't think it is the same mechanics that drove the yield curve inverse in the other periods that the OP quoted. I am still picking apart the causes of Japan's deflation and low government yields.
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Re: Negative Real Rates a Strong Recession Warning?

Post by nisiprius »

Based on my understanding of what Jeremy Siegel wrote in Stocks for the Long Run,

1) Economists' attempt to predict the turning points of recessions have been ludicrously bad.

2) Even if you knew in advance the exact starting and ending dates of recessions--which requires a crystal ball since the NBER does not call them until after the recession is over--Siegel found that hypothetical perfect market timing based on those dates only improved results by about 0.5% per year.

In short: nobody's been able to predict them, and even if they could, it wouldn't have helped much.

So I'm not sure what do with "recession warnings" other than ignore them.
Annual income twenty pounds, annual expenditure nineteen nineteen and six, result happiness; Annual income twenty pounds, annual expenditure twenty pounds ought and six, result misery.
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Re: Negative Real Rates a Strong Recession Warning?

Post by JackoC »

alex_686 wrote: Thu Jan 20, 2022 2:28 pm
JackoC wrote: Thu Jan 20, 2022 1:37 pm This is a key point IMO if you mean what I would take from it, that ex-post realized treasury returns were negative real in several cases since 1870. But it's doubtful if ex ante *expected* treasury returns were ever negative before recently. ... Negative real *expected* rich country govt bond return is a case where 'it's different this time' appears to actually be true. What it portends is therefore very hard to say by referring to the past.
It worse than that for 2 reasons.

1. First, large swaths of theory had not even been connived of yet. Ideas like bond pricing, "yield curve", monetary theory. Even the concept of inflation was wobbly.

Second, money worked differently then. The majority of time quoted the US was on a quasi-gold standard. This resulted in deflation as often as not. Heck, money works differently today then it did in the 1970s.

2. So, my theory. In part I think we have the flat yield curve for the same reasons we had one back in the 1950s. There is a huge supply of savings held by risk adverse investors. There is a insufficient supply of safe assets for those investors. Thus long term rates fall.

In part - well - I don't know. I don't think it is the same mechanics that drove the yield curve inverse in the other periods that the OP quoted. I am still picking apart the causes of Japan's deflation and low government yields.
1. I agree, comparisons to before the Fed in 1913 are almost complete apples and oranges and it doesn't mean things were really the same even much more recently than that. All you can say about bond returns and inflation in the 19th century is that there were sometimes sudden bursts of inflation which made realized return negative, but usually related to wars and other sources of general instability not related to the regular business cycle. That was true in the US both between the Revolution and the Civil War, and end of the Civil War and the end of the 19th century, puncutated by a big burst of inflation during that war.

2. This must be true at some level, low yields mean more capital available relative to opportunities to deploy it. But real rates now are apparently significantly lower now than ever previously. Again it could be debated if earlier periods of subsequently realized negative bond returns actually featured ex ante negative real expected return. But I think probably not. I think it's more likely investors post WWII expected the deflationary forces of the '30's to resume (like so many people are so sure they will reemerge now, it's what they've gotten used to) and were surprised by the persistence of relatively high inflation into the '50's. Especially considering, now, a fairly integrated global capital market where US govt bond yields are relatively high among rich countries, I believe now's situation is unprecedented. Leading me to predict...nothing with any great certainty. But I'm pretty sure 'backtesting' with bonds as a predictive method is a generally poor use of time, and a way to predict ordinary recessions, worthless.
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