How the Economy Works
Rates, inflation, growth, jobs and trade: how the whole economy fits together, from first principles, with real numbers.
7 notes on rates11–19 minutes eachthe rest to comenumbers from FREDneeds a browser
00 learn this with your agent
Learn this with your agent. I do.
I am learning this with an AI beside me, the way I hope you will: it explains, I ask, it checks. Copy one of these into whatever AI you use. With WebMCP it can read the notebook’s own tools and plan your path.
1Set up your AI optional, two minutes, once
Your AI can use this page’s tools with WebMCP.Set up
2Then copy a prompt
Where should I start?
What will this notebook cover?
Explain note 1.1 simply
01 how a note works
One number from the news, taken apart.
Each phase takes one number people quote and builds it up from nothing, one short note at a time. Phase 1 does it to the 10-year Treasury yield:
What it is
The thing itself in plain words, drawn as a figure: a bond is a loan you can sell. Note 1.1, then why one length became the benchmark, 1.2.
What it is made of
The parts that add up to the number, each one defined where it first appears. Note 1.3.
What pushes it, and where it ripples
The forces that move it, and what it moves in turn: mortgages, a company’s borrowing, prices. Notes 1.4 and 1.5.
Why it is where it is today
The real number, as of a stated date, explained piece by piece. Then what to watch next. Note 1.6.
One use of it
What people do with it: Treasuries as a cushion beside stocks, and when the cushion fails. Note 1.7.
Each note is 11–19 minutes and stands on its own: it says which note it builds on, defines every word again where it first uses it, and ends with the words it defined.
Every number comes from a public source, cited where it is used:
the data
US series from FRED, the St. Louis Fed’s free database, read on a stated date.
a real company
Where a rate meets a business, it is a real one, worked from its filings.
02 one loop
The whole economy is one loop of money.
Money goes round between five kinds of player. Every topic in this notebook is one part of that loop, which is why they all affect each other.
Households
Work for wages, spend, save and pay taxes.
Firms
Sell goods and services, pay wages, borrow to grow.
Government
Collects taxes and spends them.
Banks
Take savings and lend them out, at a price: the rate.
The world
Buys from us and sells to us.
03 the plan
Rates first, the rest to come.
The notebook starts with rates, the price of borrowing, because every other part of the loop feels it. Phase 1 is written: 7 notes, about 102 minutes in all. The rest of the plan is still being drawn up; its topics are below.
writtencoming
to come, order not set yet
- inflation
- jobs
- policy
- trade
- growth and cycles
04 what you need
What you need, and what you don’t.
to readAny browser. Every figure works on a phone.
mathsSchool arithmetic: fractions and percentages. Everything else is built here.
the dataFree on FRED. Each note names the exact series and the date it was read.
codeNone. This notebook is read and worked in the page.
This notebook explains; it never tells you what to buy or sell, and it never mentions what I hold.
05 the words
Every word in the notebook.
Each note ends with the words it defines. Here they all are, 87 of them, grouped by the note that explains them. Open a note to see its words.
1.1The price of time18 words
| word | what it means |
|---|---|
| interest, interest rate | The extra a borrower pays for using your money. As a percentage of the loan, per year, it is the interest rate. |
| bond | A loan written down as a promise: interest along the way, and the money back on a set date. |
| Treasuries | Bonds sold by the US government: bills (a year or less), notes (two to ten years) and bonds (twenty or thirty years). |
| 10-year Treasury note | A ten-year loan to the US government that pays interest every year and can be sold to another investor at any time. Its yield is the benchmark for long-term rates. |
| face value | The amount repaid at the end, counted in blocks of $1,000. |
| coupon | The fixed interest paid each year, as a percentage of the face value. Set when the note is first sold; it never changes. |
| maturity | The day a bond is repaid; also how long it has left to run. |
| price | What a buyer pays for a bond today. It can be more or less than the face value. |
| yield | The yearly return from buying a bond at today’s price and holding it to the end. Not the coupon: the coupon is fixed, the yield moves with the price. When the price falls, the yield rises. |
| discount | To work out what money due later is worth today. Money later is worth less than money now. |
| reinvestment risk | The risk that money paid back must be lent again at a lower rate. |
| duration | The average wait, in years, for a bond’s payments. Roughly how many percent its price falls when yields rise one point. |
| percentage point | The plain gap between two percentages: from 4% to 5% is one point. |
| basis point | A hundredth of a percentage point. |
| realised loss | A loss locked in by selling. |
| debt loop | Higher yields mean a bigger interest bill, so bigger deficits, more bonds to sell, and higher yields again. It can feed itself. |
| the brake | Higher yields make borrowing cost more, which slows the economy and pulls expected rates, and so yields, back down. It corrects itself. |
| deficit | The gap when the government spends more in a year than it collects in taxes, filled by borrowing. |
1.2Why the 10-year17 words
| word | what it means |
|---|---|
| yield curve | Yields plotted against how long each loan lasts. The short end is months; the long end is ten to thirty years. |
| inverted curve | Short-term yields above long-term ones: often a sign the market expects the economy to weaken. |
| the Fed | The Federal Reserve, the US central bank. It sets short-term interest rates to keep prices steady and jobs plentiful. |
| reserves | The cash a bank keeps ready in its own account at the Fed, for withdrawals and payments to other banks. |
| overnight loan | A loan made today and repaid tomorrow morning; banks that end the day short of reserves borrow this way from banks with extra. |
| federal funds rate | The interest rate on overnight loans between banks. The Fed sets a target range for it, mainly through the interest it pays banks on their reserves. |
| hike, cut | The Fed raising or lowering that range. |
| benchmark | The rate others are quoted against. |
| spread | The extra a borrower pays over a benchmark rate. |
| recession | A broad fall in output and jobs that lasts months. |
| term premium | Extra pay for locking money up for a long term. Estimated with a model, not traded. |
| inflation, CPI | How fast prices rise. The consumer price index (CPI) measures it with the cost of a fixed basket of everyday goods and services. |
| priced in | Already expected, so already in today’s prices. |
| deflation | Prices actually falling. Not the same as inflation coming down, which means prices still rise, only more slowly. |
| stagflation | Prices rising while jobs shrink: the case where the Fed’s two goals pull against each other. |
| auction | How the Treasury sells new bonds: investors bid, and the winning bids set the yield. |
| mortgage | A loan to buy a home, repaid in fixed monthly payments. |
1.3What a yield is made of9 words
| word | what it means |
|---|---|
| short rate | The overnight rate the Fed steers. |
| real yield | The return once inflation is taken out: what a lender gains in buying power. |
| nominal yield | A yield counted in plain dollars, before inflation is taken out. |
| expected path | The average short rate lenders expect over the years ahead; the 10-year minus the term premium. |
| TIPS | Treasuries whose face value rises with prices, so their yield is a real yield. |
| breakeven | An ordinary yield minus a TIPS yield: the inflation the market expects, give or take a premium. |
| model | A set of equations fitted to past data, used to estimate something that can’t be seen directly. |
| productivity | Output per hour of work. |
| capital investment | Firms’ spending on buildings, machines and equipment. |
1.4What pushes the yield16 words
| word | what it means |
|---|---|
| jobs report | The government’s monthly count of jobs added and of unemployment. |
| futures | Contracts that pay according to a number in the future, such as the Fed’s rate. Their prices show the market’s odds. |
| Brent, WTI | The main world and US benchmark prices for a barrel of crude oil. |
| supply shock | Something that makes production costlier, so prices rise and growth slows at the same time. |
| stock, share | A small slice of ownership in a company. |
| index | One number that tracks the combined prices of many stocks, such as the Nasdaq Composite or the S&P 500. |
| rally | A long run of rising prices. |
| swing buyer | The buyer whose buying or stopping moves the price most; for Treasuries, the Fed. |
| debt held by the public | What the government owes to investors outside itself. |
| GDP | Gross domestic product: the value of everything a country produces in a year. |
| net interest | The interest the government pays on its debt, less the interest it earns. |
| fiscal year | The government’s budget year. In the US it ends in September. |
| gilts | UK government bonds. |
| pension fund | A fund that pays workers’ retirement income. |
| money-market fund | A fund that holds very short loans and works like a savings account. |
| QE, QT | Quantitative easing: the Fed creates money to buy bonds. Quantitative tightening: it lets them mature without replacing them. |
1.5Where the yield ripples16 words
| word | what it means |
|---|---|
| corporate bond | A bond sold by a company. |
| refinance | Replace a loan that comes due with a new one at today’s rates. |
| operating profit | What a business earns from its own work, after its costs and before interest. |
| discount rate (for a share) | The return buyers ask of a share: what a safe 10-year pays plus the equity risk premium. Future profits are divided by it to get today’s price. Not the Fed’s discount rate. |
| equity risk premium | The extra return investors want for owning shares rather than safe bonds. |
| growth the price assumes | The yearly profit growth at which a share’s discounted profits add up to its price. |
| profit yield | Profit per share divided by the price: what $100 of a share earns this year, before growth. |
| net cash | Cash minus debt. |
| 10-Q | The quarterly report a US-listed company files with the SEC, the stock-market regulator. |
| market value | What something would fetch if sold today. |
| rolled over | Repaid with new borrowing, at the rates of the day. |
| dollar index | The dollar’s value against a basket of the currencies of the main US trading partners. |
| capital | Money available to invest. A bank’s capital is its owners’ own money, the cushion that absorbs its losses. |
| correlation | A score from minus one to plus one for whether two things move together. |
| portfolio | Everything an investor holds. |
| hedge | Something that tends to gain when your other holdings lose. |
1.6Reading the yield today6 words
| word | what it means |
|---|---|
| balance sheet | Here, the bonds the Fed owns. |
| refunding | The Treasury’s quarterly announcement of what it will sell. |
| bond book | The bonds a bank owns. |
| payrolls, unemployment rate | Jobs on employers’ books; the share of people looking for work who can’t find it. |
| technical analysis | Reading future prices from the shapes of past charts. |
| closes | The last reading of a day or a week. |
1.7Hedging with bonds5 words
| word | what it means |
|---|---|
| flight to safety | Investors selling riskier things, such as stocks, in a scare and buying the safest things they can find, such as Treasuries. |
| 3-month bills, rolled over | Owning a 3-month Treasury bill and replacing it with a new one each time it comes due: it earns the short rate and barely moves in price. |
| 60/40 portfolio | A portfolio with 60% in stocks and 40% in bonds, a common split for investors who want a cushion. |
| matching | Holding a bond that comes due on the date the money is needed, so its price swings on the way don’t matter unless it is sold. |
| ladder | Bonds that come due one after another, say one each year, so money comes back on a schedule. |