Monday, November 12, 2007

Fed Funds Rate vs. 3 Month Treasury Bills

These charts show the difference between the fed funds rate and the 3 month treasury bill rate divided by the average of the two rates.

First up, the big picture.

Let's zoom in a bit. Note the reaction to 9/11 in the chart above. The fed funds rate fell much faster than the three month treasury bill. It seems the treasury bills were caught in the headlights but Greenspan rode in on a white stallion to save the day (but not for savers, mostly just for spenders).

It is probably best not to read too much into the 2003 to early 2004 timeframe. Interest rates were only 1% so small changes in the rates made big changes in this chart. On the other hand, small changes in one thing making a big change in something else is the very essence of overleverage, isn't it?

A LOT of leverage can be applied when rates are just 1%. Heck, if interest rates fell to 0% I'd be trying to borrow an infinite amount on a fixed long-term loan. Here's my thinking.

If interest rates picked up I'd be earning an infinite amount of interest on the money as I simply move it to treasury bills and rake in the risk-free profits. Hey, that sounds just a tad inflationary, doesn't it?

If interest rates actually stayed at zero I could always just pay back the loan with no harm done (assuming the lender ever wanted it back). It wasn't like I ever had to pay interest on it. It had a zero percent rate, right?

There'd be no way to actually lose (assuming I didn't think low interest rates were here permanently, I didn't waste billions of dollars on granite countertops, and I actually got a real zero percent rate and not some sort of teaser rate that is).

Here's the uh oh chart. In honor of Greenspan's Age of Turbulence, here's my commentary. Uh oh.

Source Data:
FRB: Selected Interest Rates

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