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Wednesday, May 20, 2020

Update: The World's Simplest Bond Model

Chart: World's Simplest Bond Model

I ran across a comment to the effect that Modern Monetary Theory (MMT) somehow is missing a theory of interest rates. Given that the MMT description of interest rates is that it is driven by expectations, and that my view is that this is the most solid way to understand interest rates, I was slightly annoyed.


This triggered me to update "The World's Simplest Bond Model." After viewing the results, I decided that I could just go back to working on the index of Recessions: Volume I. I want to underline that I do not give investment advice, and anyone curious about the model is directed to my article describing it (one of my earliest articles on this website).

(c) Brian Romanchuk 2020

2 comments:

  1. Hi - in your original World's simplest bond model post, you mention that the model does not hold well during the Volcker regime shift. I would argue that we are facing a regime change with ballooning CB balance sheets and the disconnect of the monetary base from measured inflation (amongst different reasons for low inflation).

    If MMT, which is de facto seeing its first steps, stays as a more established way of policy making, a regime shift is undeniable in my view. Therefore doesn't using this framework conflict with MMT?

    ReplyDelete
    Replies
    1. I was mainly amused that the model nailed the level of bond yields, so I didn’t worry too much about details.

      The problem with this model is that it is purely backwards-looking, which is the source of potential problems. That is a concern from both the perspective of MMT as well as standard financial theory.

      Delete

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