The Treasury sold $10 billion of five-year Treasury Inflation Protected Securities at a negative yield for the first time in the history of U.S. debt.

The securities drew a yield of negative 0.55 percent, the same as the average forecast in a Bloomberg News survey of 7 of the Federal Reserve’s 18 primary dealers. The bid-to-cover ratio, which gauges demand by comparing total bids with the amount of securities offered, was 2.84. The average at the last 120 auctions was 2.38. The sale was a reopening of an $11 billion offering in April.

“These negative yields are being driven by the Federal Reserve and their push to increase inflation expectations,” Michael Pond, co-head of U.S. rates strategy in New York at Barclays Plc, said before the sale. The firm is one of 18 primary dealers required to bid at Treasury auctions.

The weak economic recovery, high unemployment rate, and recent slowing of inflation to a very low level suggest an increased risk of deflation in the United States (Liu and Rudebusch, 2010).

However, the risk is lower if people expect inflation to remain stable at a positive rate. A brief period of negative inflation like the one observed during 2009, which was largely a consequence of dramatic declines in energy prices, should not pose a risk to the economy as long as it is viewed as a temporary phenomenon that does not alter longer-term inflation expectations.

Measuring inflation expectations is a key factor in assessing the risk of sustained deflation. The challenge is to obtain reliable estimates of inflation expectations. This Economic Letter is based on a recently refined model that uses Treasury yields to estimate inflation expectations. The findings indicate that the heightened probability of deflation at the peak of the financial crisis has diminished considerably. Currently, the estimated probability is quite low.

Demands that U.S. banks repurchase faulty loans made during the housing boom emerged as one of the most sensitive topics for mortgage bankers at a conference on Monday, with one executive urging the industry to push back harder.

Banks over the past year have been under siege from the demands, primarily at the hands of U.S. mortgage funding giants Fannie Mae and Freddie Mac. Shares of some banks have come under pressure due to speculation the costs associated with loan repurchases will rise.

The demands for the banks to buy back mortgages are typically based on violations of so-called representations and warranties, used by lenders to assure investors of that all aspects of the loan are as stated. The lax enforcement of such standards led to folly, or fraud, in lending during the boom, analysts said.

Despite the Dodd-Frank financial reform enacted in July, the mortgage market remains frozen and effectively nationalized.

Today 90% of the $14 trillion in outstanding residential mortgages is controlled by the Federal Housing Administration (FHA), the Department of Veterans Affairs, or Fannie Mae and Freddie Mac—with the latter two under government conservatorship.

The solution? Privatize the mortgage market.

Fannie and Freddie have shown how government guarantees lead to dangerous risk- taking in which shareholders reap the profits but taxpayers pay for the losses. Even their most powerful longtime congressional patron, Barney Frank (D., Mass.), now agrees it is time to abolish these two government-sponsored enterprises (GSEs).

Unfortunately, a popular fallback position is for the government to guarantee every middle-income residential mortgage directly. While that's arguably better than guaranteeing the GSEs, the underwriting standards for government-guarantee programs will assuredly collapse under political pressure, leaving the taxpayers once again holding the mortgage losses.