A loyal Marginal Revolution reader asks:
What are your thoughts on the new dynamic optimal public finance policy models being built and simulated? Will they yield any new insights applicable for the real world, or are they a fad?
Fortunately for this reader, he did not ask me, since I possess no relevant information. I can, however, offer one true story.
Over the past few years, the UK government has sought to ensure the financial viability of pension funds, partly by imposing "duration matching" restrictions on the bonds held by these funds. The result has been substantially increased demand for long-dated bonds, to the extent that the GBP yield curve is now substantially inverted (as of this writing, 30-year swap yields are over a percent below 2-year).
The UK government, which is forcing pension funds to buy long-dated bonds, could then lower its own cost of funding by issuing more long-dated bonds; but they have not acted to do so. Perhaps in a few years' time that part of the government will notice the shape of the yield curve, and issue long-dated bonds, thus flooding the market and inflicting huge mark-to-market losses on the pension funds.
The point of this little story is that governments cannot be trusted to make even the most obvious decisions. This is not UK-specific: witness then-U.S. Treasury Secretary Lloyd Bentsen's persistent issuance of short-dated bonds before the 1994 rate hikes.
[Mr. Cowen's answer is here.]