But as I explained last week, the short term rate is completely within the control of the Fed. See here: https://www.economonitor.com/lrwray/2013/05/01/reconciling-the-liquidity-trap-with-mmt-can-delong-and-krugman-do-the-full-monty-with-deficit-owls/. Long term rates depend on the state of liquidity preference plus expectations of future Fed policy. But in any case, the Vigilantes cannot force Treasury to issue long term debt. It can stick to the short end of the maturity structure and then pay whatever rate the Fed targets.
The real danger is not that the Vigilantes go all vigilant on Uncle Sam, but rather that the Fed decides to do a Volcker (raise the overnight rate to 20%). Congress can stop that by legislating that the Fed cannot act like a Vigilante. Alternatively, Treasury can stay on the short end. Both of these are policy choices, completely outside the influence of Vigilantes.
By Jove, Krugman’s got it. Here’s what he wrote today:
Remember, Britain has its own currency, which means that it can’t run out of cash. Furthermore, the short-term interest rate is set by the
. And the long-term rate, to a first approximation, is a weighted average of expected future short-term rates. Unless markets believe that Britain is going to default — which it isn’t, and they won’t — this is more or less an arbitrage condition that ties down the long run rate no matter what happens to confidence. Or to be a bit more precise, it’s hard to see what would drive up long rates except a belief that the BoE will raise short rates; and why would it do that unless it sees economic recovery in prospect? http://krugman.blogs.nytimes.com/2013/05/05/george-osbornes-fear-of-ghosts/?smid=tw-NytimesKrugman&seid=auto
All he has to do is to carry that analysis beyond the current downturn. This can go on forever, of course. Keep short term interest rates low, or keep Treasury out of long maturities.
This is quite a contrast to what Krugman argued two years ago, in a critique of MMT:
And now suppose that for whatever reason, we’re suddenly faced with a strike of bond buyers — nobody is willing to buy U.S. debt except at exorbitant rates…. So then what? The Fed could directly finance the government by buying debt, or it could launder the process by having banks buy debt and then sell that debt via open-market operations; either way, the government would in effect be financing itself through creation of base money. I could go on, but you get the point: once we’re no longer in a liquidity trap, running large deficits without access to bond markets is a recipe for very high inflation, perhaps even hyperinflation… And no amount of talk about actual financial flows, about who buys what from whom, can make that point disappear: if you’re going to finance deficits by creating monetary base, someone has to be persuaded to hold the additional base… But the idea that deficits can never matter, that our possession of an independent national currency makes the whole issue go away, is something I just don’t understand. (See here: http://krugman.blogs.nytimes.com/2011/03/25/deficits-and-the-printing-press-somewhat-wonkish/; and here http://krugman.blogs.nytimes.com/2011/03/26/a-further-note-on-deficits-and-the-printing-press/.)
See also Scott Fullwiler’s nearly line-by-line take-down of Krugman’s earlier pieces here: http://papers.ssrn.com/sol3/papers.cfm?abstract_id=1799068. But the important point is that he’s now got it. Let’s hope he doesn’t lose it!
And on another happy note, Larry Summers is catching on, too. See here http://mobile.reuters.com/article/idUSBRE94500720130506?irpc=932 where he argues against Reinhart and Rogoff’s misguided approach:
The extrapolation from past experience to future outlook is always deeply problematic and needs to be done with great care. In retrospect, it was folly to believe that with data on about 30 countries it was possible to estimate a threshold beyond which debt became dangerous. Even if such a threshold existed, why should it be the same in countries with and without their own currency, with very different financial systems, cultures, degrees of openness and growth experiences? And there is the chestnut that correlation does not establish causation and any tendency for high debt and low growth to go together reflects the debt accumulation that follows from slow growth.
Can anyone say “MMT” knew that all along? That was exactly the argument that Yeva Nersisyan and I made as soon as the awful book came out. See here: https://www.economonitor.com/lrwray/2013/04/17/no-rogoff-andS-reinhart-this-time-is-different-sloppy-research-and-no-understanding-of-sovereign-currency/.