Underlying the movement of interest rates in 1990 was an economy that continued to weaken as the year progressed. But for whatever reasons, the Federal Reserve Board declined to take measures to revive the economy until November. Around this framework, various outside forces acted on U.S. rates.

The Japanese stock market, as measured by the Nikkei index, hit an all-time high of 38,915.9 in late December 1989 before losing 46 percent of its value by Sept. 25. The boom in stocks had occurred in Japan when the discount rate there was 2.5 percent. But oil prices had risen late in 1989, and the Bank of Japan, concerned about inflation, began to raise the discount rate. With interest rates rising and the yen falling in value, Japanese stocks looked way overpriced, and both the stock and bond markets cracked.

This led Japanese institutions to sell U.S. Treasuries to gain liquidity -- during a year in which the Treasury had to raise $201 billion in net new cash (compared with $108 billion in fiscal year 1989) to finance the $220 billion deficit for fiscal year 1990. By April, the 30-year U.S. Treasury bond had risen almost a full percentage point, to 9 percent. This occurred while the economy was weakening.

Borrowing for German unification in early 1990 pushed the key German 10-year bond to more than 9 percent. With both Japanese and German rates significantly higher, the interest rate gap between them and U.S. rates had narrowed, and money flowed overseas, creating a concern about who was going to buy U.S. debt. Through much of this period, the political debate concerning a viable debt package was being waged in Washington, presenting a picture of the government at its worst.

The world was shaken by Iraq's brutalization of Kuwait on Aug. 2, and the financial markets were thrown into turmoil. By late September, the price of oil had risen to $39.50 per barrel, and the fear of inflation and war devastated not only the world's bond markets, but the stock markets too. The long Treasury bond peaked at 9.12 percent during September and for a while followed the price of oil and to some extent the dollar. Municipal yields rose to new highs in October before falling to much lower levels in December.

By November, the Fed became reconciled to the true weakness of the economy and embarked on a strong program to resuscitate the patient. Since November, the federal funds rate was lowered by 100 basis points; reserve requirements were removed on certain deposits; and the discount rate was cut from 7 percent to 6.5 percent -- a lot of Fed action in a very short period of time. For the year, short-term rates as measured by the federal funds rate have declined 130 basis points, and the yield on the 30-year bond is down about 77 basis points from its peak.

We face 1991 with lower interest rates, an obviously ailing economy, the threat of a war and the possibility of higher oil prices if there is a war. Those are the knowns. It is the unknowns, either domestic or international, that could wreak havoc on interest rates in 1991.