Market fears send key interest rate to 66-year low

MATTHEW CRAFT

AP Busi­ness Writer

NEW YORK — The drop in a key inter­est rate to a 66-year low is a sign of one thing — fear.

Traders don’t actu­ally think a Trea­sury note pay­ing 1.62 per­cent is a good invest­ment. They just trust Uncle Sam to keep their money safe if Europe falls apart.

“When peo­ple just want to get their money back, there’s not a lot of com­pe­ti­tion,” said Bill O’Donnell, head of U.S. Trea­sury strat­egy at the Royal Bank of Scotland.

The bench­mark 10-year Trea­sury note fell Wednes­day to its low­est level since Novem­ber 1945 as wor­ries about the Euro­pean debt cri­sis roiled mar­kets world­wide. Investors sold off stocks and plowed money into gov­ern­ment bonds that are con­sid­ered safe.

The search for hid­ing places was spurred by news out of Spain, the lat­est trou­ble spot in the region’s debt cri­sis. The Euro­pean Cen­tral Bank said Spaniards pulled bil­lions in deposits out of their banks last month, rais­ing con­cerns of a larger bank run.

The yield on the 10-year Trea­sury dropped to 1.62 per­cent, a steep drop from 1.74 per­cent late Tues­day. Ris­ing demand for bonds pushes their yields lower.

When banks or big investors get fright­ened, their con­cern is no longer about mak­ing more money, O’Donnell said. They just want to avoid los­ing it. That’s why traders on Wednes­day bought Ger­man gov­ern­ment two-year notes pay­ing 0 per­cent, he said. They’re sim­ply hand­ing their money over for safekeeping.

“Peo­ple still have faith that they’ll get their money back from the U.S. gov­ern­ment,” said Ira Jer­sey, U.S. inter­est rate strate­gist at Credit Suisse.

For the fed­eral gov­ern­ment, that trust means it can bor­row at rock-bottom rates even as debts pile higher. Total fed­eral debt now sits at a record $15.7 tril­lion. But it cost the gov­ern­ment more to bor­row when debts were lower. The 10-year yield has aver­aged 4.7 per­cent over the past 20 years.

The trend of higher debts and lower rates runs counter to an argu­ment often heard in Wash­ing­ton. Cer­tain Repub­li­cans often argue that ris­ing fed­eral debts will turn the U.S. into another Greece. Greece’s shrink­ing econ­omy and deep debts have pushed the unem­ploy­ment rate to 21.7 per­cent and 10-year inter­est rates to 26 percent.

But the work­ings of the U.S. gov­ern­ment bond mar­ket often break the eco­nomic law of sup­ply and demand. Trea­surys have plenty of unique advan­tages, includ­ing the world’s biggest buy­ers, for­eign cen­tral banks that don’t play the stock mar­ket but need a safe place to stash money.

Size mat­ters, too. The U.S. econ­omy remains the world’s largest, which means there’s com­merce to be taxed, O’Donnell said. If needed, the gov­ern­ment could raise money by elim­i­nat­ing deduc­tions, clos­ing loop­holes and adopt­ing other reforms.

“With a few strokes of the pen, we could get our debts down by pay­ing our taxes,” he said. “There’s some­thing to tax, unlike other countries.”

At $11 tril­lion, the U.S. gov­ern­ment bond mar­ket dwarfs those of other coun­tries, which makes Trea­surys the eas­i­est secu­rity to buy and sell in a hurry. Daily trad­ing of Trea­surys runs at $523 bil­lion, roughly 17 times higher than trad­ing in Ger­man bunds.

For the aver­age Amer­i­can, the drop in Trea­surys yields could mean even cheaper mort­gages. The 10-year rate acts like an anchor for bor­row­ing costs through­out the econ­omy, and its plunge has knocked 30-year mort­gages to record lows for four weeks in a row.

Last week, Fred­die Mac said that the rate on the 30-year loan dipped to 3.78 per­cent, the low­est since long-term mort­gages began in the 1950s. But the same fear that’s shak­ing finan­cial mar­kets is likely to under­mine Amer­i­cans’ con­fi­dence in the economy.

“Mort­gage rates might go down,” Jer­sey said. “But so will the appetite to buy homes. When the world is falling apart like this, con­fi­dence is likely to be hampered.”

In other Trea­sury trad­ing Wednes­day, the yield on the 30-year bond dropped to 2.73 per­cent, down from 2.85 per­cent the day before. Its price jumped $2.50 for every $100 invested. The two-year Trea­sury dropped to 0.28 per­cent from 0.30 percent.

The three-month T-bill paid a yield of 0.07 percent.

Posted by AP News on May 30 2012. You can follow any responses to this entry through the RSS Feed. Comments can be made below.