Arnold Kling  

What's the Real Interest Rate?

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A Treasury Department paper says


This paper has developed alternative approaches for projecting the long-term Social Security real interest rate, including an examination of historical data and estimation of yield curves for the Treasury inflation-indexed market. The examination of historical experience back through 1870 implies that the long-term real interest rate is near 3 percent. Forward-looking projections from yield curves for inflation-indexed Treasuries for the past three years have averaged about 2.8 percent.

But currently, the real rate on TIPS is around 2 percent. I don't care what the average was over the past three years. Would the Treasury like to offer me foreign exchange trades at the average exchange rate over the past three years?

As long as government operates under the assumption that the real interest rate on Social Security is higher than the rate on TIPS, the math on privatization is going to look bad.

Thanks to Bruce Bartlett for the pointer.


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COMMENTS (2 to date)
Larry Jones writes:

I've always been under the impression that the TIPS rate is not the best barometer of the real interest rate right now because of liquidity issues with the TIPS securities.

richard writes:

Current and recent productivity gains are much higher than historic averages, yet SS uses historic numbers. If you use recent numbers (last 10 years, for example), the current social security system will be solvent forever.

By the way, TIPS are very liquid. Maybe not as liquid as some other govt bonds, but very liquid. Bid/ask spreads are tiny. Yields may be lower than the real rate as part of TIPS pricing may be inflation insurance, but that insurance component, if it exists, is likely very small.

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