Regaining faith in U.S. but not the economy

August 5, 2011: 7:51 AM ET
Treasuries

Click chart for more on Treasuries.

NEW YORK (CNNMoney) -- Consider the irony of Thursday's market chaos.

On the very day the U.S. government would have fallen into default had the debt ceiling not been raised earlier this week, according to the U.S. Treasury's warning, government securities were once again the risk-free alternative to a tumbling stock market.

"The full faith and credit of the United States" has meaning again!

As investors bid up Treasury prices, their yields dropped to some of the lowest levels in history.

Treasury bills that come due through late December are now yielding 0%. In some cases on Thursday, yields dipped into negative territory, as scared investors effectively agreed to pay the U.S. government to hold their money.

Early Friday, two-year notes dipped to 0.29%. The 5-year note, which is tied to consumer and auto loans, yields 1.1% and the 10-year, more important for mortgages, is at a measly 2.4%. That's the good news. Such low interest rates in theory should help the economy.

Amid the bond buying is speculation that the Federal Reserve, at its policy-making meeting next Tuesday, may initiate a policy of purchasing long-term Treasury securities to inject cash into the financial system and drive long-term interest rates even lower.

"It's possible they'll do something like that. Maybe even more dovish," said Ira Jersey, Interest Rate Strategist with Credit Suisse.

But would lower interest rates accomplish much for the economy?

"I don't think it does anything," said RBC chief market economist Tom Porcelli.

Treasuries rally as fear saturates market

Interest rates have been low for some time. Pushing them lower may convince some businesses and consumers to borrow. But what really stimulates borrowing and spending of that borrowed cash is confidence that the economy and earnings -- business and personal -- will grow. That confidence may now be fading.

"We continue to go through a deleveraging process. It takes multiple years to work through," said Porcelli. In other words, consumers and many businesses have been trimming debt.

Fed can't, and shouldn't, save the day

So the Federal Reserve -- which took extraordinary measures to help bail out the economy during the financial crisis -- may not be able to accomplish much more through monetary policy, warn analysts.

The chance for fiscal stimulus of the economy is now off the table as a result of the hard-fought deal between Republicans and Democrats to chop federal spending in return for raising the deficit ceiling.

"There's no easy way out that can be seen at this time," said Allen Sinai of Decision Economics Inc. "The U.S. is already halfway into its version of a lost decade." That's a comparison to Japan, where rock bottom interest rates repeatedly failed to spark an economic revival during the 90's.

Financial markets driven by emotion often overshoot economic and corporate fundamentals. Though the U.S. economy grew slowly last quarter -- at an annual rate of 1.3% -- it was growing. Many forecasters, including those at RBC and Decision Economics, still see growth in the second half of at least 2%. And, corporate profits have been exceptionally strong this quarter.

The nation now has to hope that the anxiety-ridden markets are overshooting and their pessimism doesn't become self-fulfilling because, economists warn, there is there is little hope of assistance from government fiscal and monetary policy. To top of page

Index Last Change % Change
Dow 16,408.54 -16.31 -0.10%
Nasdaq 4,095.52 9.29 0.23%
S&P 500 1,864.85 2.54 0.14%
Treasuries 2.72 0.08 3.19%
Data as of 5:09pm ET
Company Price Change % Change
Bank of America Corp... 16.15 0.00 0.00%
Facebook Inc 58.94 0.00 0.00%
General Electric Co 26.56 0.00 0.00%
Cisco Systems Inc 23.21 0.00 0.00%
Micron Technology In... 23.91 0.00 0.00%
Data as of Apr 17
Overnight Avg Rate Latest Change Last Week
30 yr fixed4.36%4.24%
15 yr fixed3.39%3.26%
5/1 ARM3.36%3.27%
30 yr refi4.34%4.22%
15 yr refi3.38%3.24%
Rate data provided
by Bankrate.com
View rates in your area
 
Find personalized rates:
Market indexes are shown in real time, except for the DJIA, which is delayed by two minutes. All times are ET. Disclaimer LIBOR Warning: Neither BBA Enterprises Limited, nor the BBA LIBOR Contributor Banks, nor Reuters, can be held liable for any irregularity or inaccuracy of BBA LIBOR. Disclaimer. Morningstar: © 2014 Morningstar, Inc. All Rights Reserved. Disclaimer The Dow Jones IndexesSM are proprietary to and distributed by Dow Jones & Company, Inc. and have been licensed for use. All content of the Dow Jones IndexesSM © 2014 is proprietary to Dow Jones & Company, Inc. Chicago Mercantile Association. The market data is the property of Chicago Mercantile Exchange Inc. and its licensors. All rights reserved. FactSet Research Systems Inc. 2014. All rights reserved. Most stock quote data provided by BATS.