It’s not that curves are flattening. It’s where they are. There’s really no mystery surrounding any of this. The “conundrum” arrives only when starting from the Orthodox perspective; the one derived from Economists even though they don’t understand the bond market in the slightest.

Short-term rates tend to “obey” central bank signals because central banks offer more direct money alternatives. If the Federal Reserve offers X on its reverse repo, it makes sense that money market rates would cluster around X given that they have this alternate.

In an ideal world, however, they wouldn’t just cluster they would abide by these intended strictures. If there is one thing we’ve learned over the last eleven years as global hierarchy has broken down, try as they might central banks don’t have as much influence as they once thought they did.

And if any central bank has difficulties down at the short end, what obligation remains for the long end of any curve? Longer-dated maturities are therefore far more fluid in how they process these dynamics; meaning, largely, the consequences of what’s going on at the short end. These tend to be very different from mainstream Economic theory.

The fundamental difference begins where the Economics textbook doesn’t go. For one example, the ECB’s PSPP program (QE) included within its market guidelines specific recognition of practical central bank experience. The Federal Reserve in 2013 realized it was stripping repo collateral out from money markets by buying in OTR issues. They very quietly stopped doing that.

Thus, when the ECB started up its version of QE two years later it made sure to recognize these potential consequences:

The Eurosystem lends securities using the channels for securities lending available under its existing infrastructure, including so-called fails mitigation programmes by international central securities depositories, agency lending and bilateral securities lending.