Booms, Bombs and Bonds: Interest Rates, Part I

Chart 1

There’s an old aphorism in military affairs to the effect that amateurs talk about strategy, but professionals talk about logistics. The financial version of this aphorism might be that cable TV touts talk about stocks, but serious economic analysts talk about bonds.

Stock prices are, after all, a notoriously unreliable indicator of the state of the economy. Too often reflect by fads and fantasies, with online trading driving them to greater extremes. The great economist Paul Samuelson once quipped that the stock markets had predicted nine of the last five recessions. Interest rates, by contrast, are almost always telling us something important about the economy — although exactly what they’re telling us is sometimes a matter of dispute.

This is one of those times. I’ve been relatively quiet about interest rates on this Substack because people whose analysis I respect were telling quite different stories, and I wasn’t sure who was right. In fact, I still have some doubts about what’s happening.

But the large jump in interest rates since the beginning of the Iran War, to levels not seen since the peak of the 2000s housing bubble, demands attention. So today’s primer will discuss the recent move in interest rates and briefly sketch out competing hypotheses about what is causing it.

I’ll come back next week with an effort to sort out these competing explanations. Not to be coy, my best guess is that we’re mainly looking at the effects of the immense boom in AI-driven investment, but that the inflationary impact of the Iran War has reinforced those effects by triggering a change in the policy “narrative.” But that will be for the next primer.

Today, beyond the paywall I will address the following:

1. Interest rate history

2. The theory of interest rates

3. Complications: Inflation, international spillovers, and safety

4. Hypotheses about the recent rise