What Is the Yield Curve Telling Us.Pdf

Financial Markets, Money, and Monetary Policy

What Is the Yield Curve Telling Us?

03.20.08 Joseph G. Haubrich and Katie Corcoran

Yield Spread versus Real GDP Growth

Percent 12 10 8 6 4 2 0 -2 -4 1953 10-year minus three-month yield spread 1963 1973 1983 1993 2003 R eal G DP growth (year-to year percent change)

Note: Shaded bars represent recessions. Sources: Bureau of Economic Analysis; Federal Reserve Board.

Yield Spread versus One-Year-Lagged Real GDP Growth

Percent 12 10 8 6 4 2 0 -2 -4 1953 10-year minus three-month yield s pread 1963 1973 1983 1993 2003 One year lagged real G DP growth (year-to-year perc ent c hange)

Since last month, the yield curve has gotten steeper, with long-term interest rates rising and short-term interest rates falling. One reason for noting this is that the slope of the yield curve has achieved some notoriety as a simple forecaster of economic growth. The rule of thumb is that an inverted yield curve (short rates above long rates) indicates a recession in about a year, and yield curve inversions have preceded each of the last six recessions (as defined by the NBER). Very flat yield curves preceded the previous two, and there have been two notable false positives: an inversion in late 1966 and a very flat curve in late 1998. More generally, though, a flat curve indicates weak growth, and conversely, a steep curve indicates strong growth. One measure of slope, the spread between 10-year bonds and 3-month Treasury bills, bears out this relation, particularly when real GDP growth is lagged a year to line up growth with the spread that predicts it. The yield curve has continued to get steeper, with a slight drop in long rates overshadowed by the plunge in short rates. The spread remains positive, with the 10-year rate moving down to 3.51 percent while the 3-month rate dropped all the way to 1.37 percent (both for the week ending March 14). Standing at 214 basis points, the spread is well above February’s 144 basis points, and...