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Monday, May 23, 2016

Interest Rate Cycles: An Introduction

Monetary policy has increasingly become the focus of economists and investors. This report describes the factors driving interest rates across the economic cycle. Written by an experienced fixed income analyst, it explains in straightforward terms the theory that lies behind central bank thinking. Although monetary theory appears complex and highly mathematical, the text explains how decisions still end up being based upon qualitative views about the state of the economy.

The text makes heavy use of charts of historical data to illustrate economic concepts and modern monetary history. The report is informal, but contains references and suggestions for further reading.

This report is available in eBook format, and the paperback has been published on June 7; it will appear at online booksellers over the coming days (links will be added below). The text is around 27,000 words, and is richly illustrated. (Paperback edition is 102 pages, excluding front matter.)

List of Chapters

  • Chapter 1  Overview
  • Chapter 2  Central Bank View of Policy Rates
  • Chapter 3  Modern Interest Rate and Economic Cycles
  • Chapter 4  Market Reaction to Policy Rate Changes
  • Chapter 5  The Analytical Challenge of Recessions
  • Chapter 6  Conclusions
  • Appendix
  • Data Sources
  • References and Further Reading

Paperback Edition

The paperback edition has ISBN 978-0-9947480-4-1, with a list prices: USD $8.95, GBP 6.50, EUR 7.95. Publisher of record: BondEconomics

Please note that the paperback is non-returnable, except in the case of manufacturing defects.

  • Direct from CreateSpace (the on-demand printer). There is a 20% discount (I have not tested this code, please make sure the billing is correct if you use it!) if you use the code S6AKAJNZ (I have not yet set the expiry date of the code).
  • - affiliate link
  • Other Amazon stores, including Amazon Canada.
  • Barnes & Noble
  • It should start to appear at other online booksellers within a few days (weeks?) of June 7th.
  • Many book stores will be able to order the book as a special order; the book will show up in catalogues by mid-July at the latest. You will either need to order it based on my name and book title, or the ISBN.

Ebook Available At Online Retailers

The book is available in the Kindle Format at Amazon. The control to the left allows for direct purchase at

Links to local Amazon web sites:

Other Online Retailers


The following description is from the introductory section to the report. Online retailers have longer previews available.

This report offers an informal introduction to modern central bank watching, explaining why interest rates are raised and lowered across the business cycle. The objective is to illustrate the logic behind central bank decisions, without plunging into the mathematical complexity of modern monetary economic theory. Whenever possible, concepts are illustrated with charts of economic and financial time series.

Although the author is a follower of post-Keynesian economics, this text focuses on “mainstream” economic theory (sometimes called neoclassical economic theory). The explanation for this is that the central bankers who set the policy rate are followers of mainstream theory, and so we need to understand that theory if we wish to understand their decisions.

Therefore, if we want to understand why policy rates are administered the way that they are, we need to understand mainstream logic. One could imagine an alternative theory how interest rates ought to be set, but until central bankers adopt that theory, it tells us little about real world interest rate determination.

The underlying theme of the analysis is somewhat pessimistic. Mainstream macroeconomic theory is highly mathematical, and seems to offer a precise understanding of the business cycle. Unfortunately, at the core of the theory there are a number of variables that are not directly measured, and the current values of those variables are uncertain. It is easy to explain historical events, since estimates of those variables can be pinned down. However, the clarity of explanations for historical developments is in sharp contrast to the quality of model-based forecasts. The usefulness of the mainstream analytical framework is that it provides a way of thinking about the business cycle, at the cost of fundamental uncertainty around the values of key variables.

About The Report

(The following was taken from Section 1.3.)

This report is informal, and the use of equations was largely avoided (only a few elementary expressions appear). Whenever possible, ideas are illustrated using charts of economic data. (Since eBooks have poor support of page numbers, some charts are repeated between different sections, as it is otherwise awkward to refer back to them. Furthermore, endnotes are also avoided because of their awkward handling in eBooks.) The References section gives the bibliographic details (and hyperlinks) for materials that are cited. The objective of this report is to give a high-level overview of the subject, and not to act as a textbook.

The text is aimed at readers who are comfortable reading financial news articles, and who wish to understand interest rate markets. Whenever possible, technical terms are defined, although it is assumed that the reader is familiar with basic concepts, such as the business cycle. However, these definitions are kept brief in order to avoid distracting more advanced readers. 

Detailed Section List

Chapter 1  Overview
1.1  Introduction
1.2  Post-World War II Interest Rate Trends
1.3 About this Report
Chapter 2  Central Bank View of Policy Rates
2.1  Introduction
2.2  Inflation Targeting
2.3  Inflation Expectations
2.4  The Output Gap and NAIRU
2.5  Real Rates
2.6  The Natural Rate of Interest
2.7  Taylor Rules
2.8  The Zero Bound
2.9  Conventional Versus Post-Keynesian Approaches
Chapter 3  Modern Interest Rate and Economic Cycles
3.1  Introduction
3.2  The United States After the S&L Crisis
3.3  Other Countries in the Early 1990s
3.4  Telecom Boom
3.5  The 2000s Expansion and the Financial Crisis
Chapter 4  Market Reaction to Policy Rate Changes
4.1  Introduction
4.2  Rate Expectations and Term Premia
4.3  The Yield Curve and the Cycle
4.4  Rate Hike Cycles and Bond Bear Markets
4.5  Inflation-Linked Bonds
4.6  Interest Rates and the Currency
Chapter 5  The Analytical Challenge of Recessions
5.1  Introduction
5.2  The Consensus and Recessions
5.3  Post-Keynesian Economics and Recessions
5.4  Oil Price Spikes
5.5  Bubbles and Recessions
5.6  Lessons from the 2010 Cycle
Chapter 6  Conclusions
6.1  The Interest Rate Cycles of the Future
A.1  Multiple Taylor Rule Generation
Data Sources
References and Further Reading

(c) Brian Romanchuk 2016


  1. Brian,

    You write that although you're a follower of post-Keynesian economics, the report will focus on how central bankers take decisions based on their understanding of mainstream economics. That's crucially important and absolutely necessary.

    However, do you know of anything similar with respect to post-Keynesian thought on interest rates, and anything that compares and contrasts with the mainstream view, without having to dish out for a huge tome like Lavoie's? It'd be useful to read your new eBook alongside something similar on the post-Keynesian view. As you'll appreciate, although anything worth understanding is worth taking the time for, I don't have the time to read and figure out hundreds of pages of academic economics.

    As superb as your previous eBook was, it briefly touched on this. Perhaps that will be the subject of your next eBook: a post-Keynesian theory of interest rates?

    1. From a broad post-Keynesian perspective, there are two areas of disagreement with regards to interest rates.

      One is the possibility that interest rates do not have the effect assumed by the mainstream. There is disagreement within PK economics; one view (by Warren Mosler, amongst others) is that interest rates have the opposite effect than is assumed by the mainstream. (Other PK'ers have views that are more neutral.) Although an interesting area of debate (shows up in the mainstream as the "neo-Ricardian" view), it really makes easy explanations of what is going on difficult. ("They raised the interest rate in XXXX. This caused the economy to slow down, or speed up, depending upon who you believe...") This is why I noted the debate within the report, but I did not pursue it.

      The second area is in how the business cycle operates, which I do touch upon in a couple of sections in the report.

      Since the policy rate is being set by mainstream economists, if we want to understand why rates go up and down, we need to understand the mainstream view. (There may or may not be arguments about how bond yields relate to the policy rate, but the PK view is not that different from the mainstream.)

      I will eventually do eReports explicitly on PK economics; I need to decide what is the best topic to pick up. I want to keep future reports shorter, but with more details, so it will only be on a narrower topic. There's a few possibilities: functional finance, an MMT primer, PK analysis of inflation. I would like to do an intro to SFC models, but that will require an ability to format equations, which is difficult for ebooks. (I can typeset equations in LaTex, but it could only be sold as a paperback, or via Kindle.)

      I was planning on my next report being on money; it was going to be a shorter "greatest hits" report (articles taken directly from this site, with light editing).

  2. Hi there, thanks for your great work. Upon reading about interest rates and bonds, there seems to be confusion about yield to maturity and the reinvestment rate assumption (links to papers posted below). The question I have for you is does the YTM (and therefore IRR) assume that all intermediate cashflows are reinvested at the YTM rate (or IRR rate)?

    1. Yes, the YTM for sensible yield conventions (e.g., not including Japanese simple yield) is equivalent to an IRR with some fiddly bond market conventions. This implies that the total return only equals the YTM if you re-invest at the YTM rate.

      To the extent you worry about things like that, you price bonds relative to a fitted discount curve, which implies that reinvestments occur at the forward rate. For example, you might want to compare a new 10-year bond and a 30-year that has 10 years left to maturity, which would most likely have wildly different coupons. The spreads versus the fitted curve is going to be more informative than just the YTM.


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