Rates had probably moved too low and too quickly. Even so, U.S. rates were still well above other industrialized nations like Germany, France, Britain and even Italy. Deflation and poor economic conditions seemed to justify the lower turn and yet the Fed seemed fixed on an increase in rates because employment had improved and the inflation target of 2% should be hit at some point in the future.
Until a couple weeks ago, the market didn’t seem convinced of a rate hike anytime soon. A look at the minutes from the FOMC’S (Federal Open Market Committe) last meeting showed concern about wage growth and a dampening of the recovery when rates are raised.
So, even though the Fed realizes it’ll need to raise rates, they’re not in agreement as to when they’ll do so.
Ahead of the minutes of the previous Fed meeting being released, the rise in rates may have been the market attempting to price in a future rate hike. The 10-year note moved from a sub-1.70% yield to just under 2.0% in less than 2 weeks.
Interest rates then seemed to stabilize and looked to be set for a pull-back based on deteriorating economic news. That was until Greece demanded that their loan agreement be re-worked with more flexibility and less stringent austerity conditions.
Greece’s current agreement expires at the end of the month and speculation has been back and forth from a Greek exit from the euro as well as their acceptance of current loan terms. Right now no one seems too sure of the outcome.
The result has been a further spike in interest rates reflecting higher perceived risk in government bonds.
We’ll be monitoring the situation closely since Greece’s potential default could have serious ripple effects across the euro zone. If Greece defaults and exits the euro, it could trigger more dominos to fall and the eventual demise of the euro zone as Spain, Italy and others would likely also demand concessions to their loan agreements.
If Greece agrees to the euro zone’s (Germany’s) terms, the spotlight will return to our economic situation here in the U.S. and the speculation will be on future Fed actions.
If Greece defaults and the domino falls, the 2008 financial crisis could look like small potatoes compared to a likely 2015 government bond debacle.