The New Normal for the 10-Year Treasury Yield: Around 4.5%, Says Tom Orlik

The Shifting Balance of Saving and Investment

• 💡 The cost of borrowing across the US economy is not solely determined by the Fed chair, but by larger dynamics like the balance between saving and investment.
• 🔑 This balance has shifted, suggesting that borrowing costs will be structurally higher regardless of who leads the Federal Reserve.

Impact of Rising Interest Rates

• 📉 For governments, cheap borrowing in past decades allowed for piling on debt sustainably; rising rates reverse this, potentially making interest payments on US debt exceed total US spending on defense.
• 📈 Investors in stock and property markets have benefited from low interest rates for decades, but structurally higher borrowing costs could lead to downward pressure on asset prices.

The Natural Rate of Interest and the 10-Year Treasury

• 🎯 The natural rate of interest is projected to rise from below 2% in the mid-2010s to around 2.5% currently, and is expected to continue edging higher.
• 📊 The new normal for the 10-year Treasury yield is anticipated to be in the 4% to 5% range, with approximately 4.5% being the expected average in the coming years.
• ⚠️ While short-term fluctuations will occur, influenced by Fed policy rate cuts, the long-term trend points towards this higher yield range.

Federal Reserve Policy and Market Expectations

• 🗣️ Fed officials' comments suggest a slowing US economy might warrant rate cuts, with some anticipating two cuts by year's end.
• 📈 Market expectations, reflected in swap contracts, price in significant easing by year-end, with a high probability of a move in September.