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Working Paper 2007-039C

"The Unusual Behavior of the Federal Funds and 10-Year Treasury Rates: A Conundrum or Goodhart’s Law?"
by Daniel L. Thornton

In February 2005 former Chairman, Alan Greenspan referred to the decline in long-term rates in the wake of the Fed increasing the target for the federal funds rate by 150 basis points as a “conundrum.” Greenspan’s remarks generated considerable interest and research. I show that the relationship between long-term Treasury yields and the federal funds rate changed dramatically well in advance of Greenspan’s observation. I hypothesize that the marked change in the relationship that I document is a consequence of the Fed switching from using the funds rate as an operating instrument to using it to implement monetary policy. Evidence from a variety of sources supports this hypothesis.

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Category > Monetary Policy/Macroeconomics
Author > Daniel L. Thornton
Research Papers and Publications: JEL Code > E52
Research Papers and Publications: JEL Code > E43