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naraburns  nihil supernum  1yr ago (text post)   31649 thread views

Culture War Roundup for the week of December 5, 2022

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You sound pretty sure, but the U.S. did indeed use YCC to maintain hugely negative interest rates after WWII.

https://www.stlouisfed.org/on-the-economy/2020/august/what-yield-curve-control

YCC in the U.S.

The U.S. incurred massive debt expenditures to finance World War II, and the Fed capped yields in order to keep borrowing costs low and stable. In April 1942, short- and long-term (25 years and longer) interest rates were pegged at 3/8 percent and 2.5%, respectively. These rate caps were largely arbitrary and were set at approximately pre-1942 levels.

As the U.S. continued to incur debt, the Fed was obligated to keep buying securities to maintain the targeted rates—forfeiting some control of its balance sheet and the money stock. The public generally preferred to hold higher-yielding, longer-term bonds. Consequently, the Fed purchased a large amount of short-term bills, which also increased the money supply, to maintain the low interest rate peg.

After the war ended, FOMC members grew more concerned with addressing the rapid inflation that materialized. However, President Harry S. Truman and his treasury secretary still favored a policy that maintained YCC (which also protected the value of wartime bonds by implying a price floor). By 1947, inflation was over 17%, as measured by the year-over-year percent change in the consumer price index (CPI), so the Fed ended the peg on short-term rates in an attempt to combat developing inflationary pressures.

In combination with rising debt from the U.S. entering the Korean War in 1950, the peg on longer-term rates contributed to faster money growth and increased inflationary pressures. In 1951, annualized inflation was over 20%, and monetary policymakers insisted on combating inflation. Against the desires of fiscal policymakers, interest rate targeting was brought to an end by the Treasury-Fed Accord in March 1951.

Yes, that describes exactly the mechanism by which the Fed cannot fix nominal interest rates. As soon as these became binding, it rapidly faced a choice between accelerating inflation and the interest rate target.

By the way, note how the peg was of nominal rates, not real (ex post) interest rates.

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