Transcript The elimination of the 30-year treasury bond Kirt Brookson Money & Banking ECO 6226

The elimination of the 30-year
treasury bond
Kirt Brookson
Money & Banking
ECO 6226
Project Goals
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To manifest the relationship between the 10-year
notes and Economic variables such as UE &
inflation.
To measure how a the demise in 30-year bonds
affected all other bonds such as AAA corp.,
short-term, mortgage rates
To form an opinion about the economic policy
decision of the Treasury Dept. about the
elimination of the 30-year bond. (Was this the
right policy for the Economy?)
History/Background
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The auction of 30-year bonds begin on Feb 18th,
1977
In 1977, James Carter was the President, Inflation
was approximately 11% and the economy was in
a recession.
In the late 1990’s during the Clinton adminstration
the Treasury started to issue less amount of 30year bonds.
Why?
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The reason for this reduction was because of increase Fed. Surplus
and Fed. Buy Bond back program and also the Fed forcasting dept.
calculated a surplus up until 2008.
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This decrease in liquidity, decreased the demand for the 30-year. A
year later, the yield on the 10-Note surpassed the 30-year
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On Oct 31,2001 a month after 9/11 the Treasury announced the
cancellation of this bond. Why?
1.)The obtain the lowest borrowing rate possible to meet the FED
needs. 2.)Evolution and adaptation of customer needs similar to
Financial Instituitions. To give the taxpayer the lowest borrowing
cost as possible.
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Reaction…..
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Investors reacted to the news drive the price of a
face value $1000 denom. by $52.81 and yields
dropped to 4.88% - from 5.22%
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On the final day of trading for the 30-year
bond(02/19/02), Treasury announced a L.T.A.
Nominal yield which may be used to track the
yield of 30-year with a the aid of an extrapolation
factor.
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Replace by the 10-year Note as the new bond
benchmark.
Literature reviews
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Some Lessons from the Yield Curve Campbell. (1995)
Basically, supported the argument that short-term bonds are better
suited than long-term bonds for Gov. borrowing. Low rates will
drive and increase Investment into the ECN which will stimulate
growth.
Consequences of debt policy in a stochastically growing
monetary economy. Grinols & Turnovsky (1998)
In contrary, they constructed a model to refute this claim made
by Campbell. Gov. should be able to issue any mixture of
debt instrument maturities, just not short-term bonds.
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Continued...(Expectation Theoory)
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Testing the expectation theory of the term
structure of interest rates in the threshold
model (Clements & Beatriz 2003)
From this model it was determined that long-term yield may be
used to determine shirt term yields only when the spread
between the two are huge.
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Testing the Expectations Theory of the Term
Structure of Interest Rates Using ModelSelection Methods (Chao 98)
This article rejected the claim by C & B , that the yield
curve acts under the expectation theory.
Analysis
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2 Correlation Coeff.
Each economic variable such as inflation & UE
compared to the 10-year Note
(New Benchmark) after the demise of the 30year bond
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Correlation Matrix Table
Correlation between all the Treasury bonds
short & long, corp. and mortgage rates
between Oct 1999- Present.
Results( Regression)
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GDP- showed a positive/negative
relationship and signifcant
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Inflation- showed a relationship with 10year notes
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Unemployment- showed a relationship
with 10-year notes
Continued (correlation)
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The relationship b/w 10-year yields
and UE is negative and weak
correlation. Value=-0.41
The relationship b/w 10-year yields
and inflation also negative and
strong correlation.
Value = -0.60
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7
y = 0.0073x + 5.7026
R2 = 0.1041
6
5
4
y = -0.0341x + 4.8759
R2 = 0.3757
3
2
1
0
1
2
3
4
5
6
7
8
9
10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25 26 27 28 29 30 31
Series1
Series2
Linear
Linear
Matrix Table
30-year 10-year
30-year
1
10-year 0.920824
1
5-year
0.894725 0.991136
3-year
0.874057 0.976067
1-year
0.810574 0.922028
AAA
0.847908 0.918774
BBB
0.808484 0.845963
Mortgage 0.887322 0.977658
Fed Funds 0.725936 0.848446
UE
-0.746249 -0.857424
Inflation -0.844149 -0.914458
5-year
3-year
1-year
AAA
1
0.99537
0.95996
0.935104
0.854239
0.988059
0.90231
-0.900772
-0.939994
1
0.981116
0.931786
0.843173
0.982362
0.93546
-0.928466
-0.950392
1
0.907684
0.798817
0.946666
0.981421
-0.965216
-0.954561
1
0.958389
0.958773
0.880409
-0.874395
-0.934918
BBB
Mortgage Fed Funds
UE
1
0.904979
1
0.763731 0.893117
1
-0.731603 -0.878746 -0.975662
1
-0.862634 -0.943818 -0.928327 0.913577
Inflation
1
Conclusion
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From the analysis, it was shown that the
elimination of the 30-year bonds cause the U.S.
yield curve to decrease. Which in turn is good for
the ECN because individuals will have to pay less
taxes. Also this downward shift caused corporate
and mortgage rates to decrease. With reduced
rates corp. borrowing cost will be less and
encourage investment. Also individual cost will
be lower which mean they’ll be able to consumer
more. So, in the short it does appear that the
Treasury acted correctly.
Reference
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Mishkin, F., The economics of money, banking and financial
markets, Addison Wesley publication, USA 2002, 6th Edition,
Campbell, J.Y., Some Lessons from the Yield Curve, Journal
of Economic Perspectives 9 (1995), 129-152.
http://www.federalreserve.gov/releases/h15/data.htm
http://research.stlouisfed.org/fred2/series/AFDEF/
http://money.cnn.com/2001/10/31/markets/longbond/
Gibbs, L., Desperately seeking income, Money, Aug2003, Vol.
32, Issue 8
Still in gear? Economist, 8/9/2003, Vol. 368 Issue 8336, p57