U.S. Treasuries’ Safety Questioned

By Ann Saphir and Howard Schneider
JACKSON HOLE, Wyoming (Reuters)
No safer than a bund. Or a gilt. Or an OAT.

Long seen as the world’s “safe haven” securities, the behavior of U.S. Treasuries during and after the COVID-19 pandemic raises questions about this status. Research presented at the Kansas City Fed’s annual conference suggests they are similar to the debt issued by countries like Germany, Britain, and France, as well as major corporations.

This inquiry is timely given the anticipated growing deficits, regardless of the next U.S. president. Researchers from New York University, London Business School, and Stanford University examined investor behavior, questioning the long-standing belief in the “exorbitant privilege” the U.S. government holds in global borrowing.

The paper argues that during the pandemic, Treasury investors shifted to a risk-based model for pricing Treasuries. This implies central banks must consider this shift when assessing bond market functionality.

The study analyzed Treasury securities during the 2020 pandemic shutdown, when global bond yields increased. Contrary to past global financial stress scenarios, investors did not flock to Treasuries; they marked them down like other nations’ bonds. The Federal Reserve responded, buying bonds to restore order, believing market dislocation was at play.

“In the risky debt regime, valuations will respond to government spending shocks, which may involve large yield changes in bond markets,” the researchers stated, highlighting notable market movements coinciding with fiscal stimulus announcements.

They cautioned that large-scale asset purchases by central banks to counter government spending could have adverse public finance effects, providing temporary price support that destroys taxpayer value while benefiting bondholders.

PUSHBACK
The paper faced criticism from attendees, including Treasury officials who argued that it did not account for pandemic-induced uncertainties. Treasury Under Secretary Nellie Liang emphasized that significant fiscal responses were financed without issues, citing over a trillion dollars of debt from the CARES Act as stable even during the crisis’s peak.