Can someone comprehensively explain what happens to the economy when interest rates fall and rise… and how this pertains to bond prices… and the shifting of investing in bonds from stocks… I’m just not getting it… uberly confusing myself thinkign about it…
Increase MS leads to Decrease IR, Increase AD, Increase P Bonds are inversely rated to the IR.
the other question that’s asked frequently is what happens when people are holding large money balances when interest rates are high. since rates are high, people will want to invest their money in bonds, which drives up the prices up bonds and which results in a decline in interest rates. i guess another way to think of it is that in a declining rate environment because of an increased money supply, the market yields will be less than current bond coupons so bond prices increase. you could also just look at the money supply graph - money supply is vertical because it’s a set amount by the Fed and the demand curve is downward sloping with interest rates in the y axis. if the money supply increases (shift to the right of the money supply curve), since the demand is downward sloping, interest rates must decrease. logically this makes sense because when the Fed buys treasuries to increase banks’ reserve and the resultant money supply, loans are easier to get so bankers have to drop rates to stay competitive.
So what is the reason behind the int rate of 3 percentage points for savings and cd’s these days? (as opposed to being 5-6% just a few yrs back?) Does it have to do with the Feds injecting money into our central system? Please describe in the interconnections. I thought most people would want to invest in bonds and savings because economy and stocks have been volatile. So would that not drive int rates to go up to make them invest in debt?
cd’s are in the 3% range because the fed has cut the target federal funds rate by 300 bps (3%) since last year. money market funds yield are priced at some excess spread to the fed funds rate but are generally similar. you’re right in that investors have fled to bonds to avoid the volatility of the stock market, but this increases the demand for bonds so the prices increase and yields drop - just check out what happened to two month treasury bills in the last couple weeks - yields have tanked because everyone wants a safe investment.